Active Trader: Oil's Moment of Truth?

"Oil is at an inflection point."

That’s the sentence being used by pundits and commodities traders this week, and by the way many of them say ‘inflection point,’ so breathlessly, it seems urgent. While people outside the close-knit world of commodities trading may think the phrase sounds, well, pointless, it carries plenty of weight for active traders.

An inflection point, in trader jargon, is a price level that foretells of a dramatic change. The price of oil, which now is about $71 a barrel, might move up or down in the near future, experts say, but whichever direction it goes it will do so significantly. Traders feel that in just a month or two, oil could go as high as $90 or as low as $55.

The pundits base the inflection point idea on how oil has traded in the past. Traders saw that when oil last traded in the low $70-a-barrel range in Oct. 2008, it didn’t stay there for long. Within two months, it fell to $34.

Oil prices have long moved on a slew of factors, including the value of the dollar, crude inventory levels and political upheavals in oil-rich nations. And right now oil’s “fundamentals,” as the pros refer to its supply and demand, remain weak. Worldwide demand for oil is negative, and there’s plenty of supply. But while those factors remain in play today, experts believe that traders’ views on the broad economy have emerged as a stronger determiner of oil prices than they have in the past. Since the March market lows, traders, buoyed by positive economic news, have pushed oil prices higher alongside stocks. In the past, most economists would argue that rising oil prices were bad for stocks. Yet this time around, relief that the global economy didn’t collapse has outweighed the concern that companies’ costs would increase, says Adam Sieminski, chief energy economist for Deutsche Bank.

Always a volatile commodity, oil has outdone itself over the past year surging to $145 a barrel last July and plunging to $34 by last December. It’s particularly hard to forecast short-term prices in this climate. Some energy investors don’t even try. Eric Marshall, the Dallas, Texas-based co-manager of the Hodges Small-Cap Fund, says he pays much more attention to the health of the companies he’s invested in, like offshore driller Transocean (RIG), than to oil’s spot price.

But short-term traders who are betting that oil’s price will move significantly soon have a couple of options. If you believe that oil will go down quickly, and you want to stay in energy, experts say you can buy shares of integrated oil firms such as ExxonMobil (XOM) whose diversity and size make them less vulnerable to changes in the spot price in oil. If you feel that oil’s price will rise soon, you can buy an exchange-traded fund that directly tracks the price of oil such as PowerShares DB Oil (DBO).