How to trade big-name oil stocks

With crude prices down considerably, investors wonder wheter the industry has played out.

By TheStreet Staff May 5, 2011 12:55PM

Image: Oil drilling platform (© Scott Gibson/Corbis)By Jonas Elmerraji, Stockpickr


With most markets looking wishy-washy this week, it's time to take a technical look at what's going on with the biggest-name stocks on Wall Street.


Technical analysis is used every day by proprietary trading floors, the Street's biggest financial firms and individual investors to get an edge on the market. And according to some sources, skilled technical traders can bank gains as much as 90% of the time.


Every week, we take an in-depth look at large-cap stocks that are telling important technical stories. This week, we're focusing on oil.


There's been plenty of attention on oil stocks in the past couple of months amid growing inflation fears and tumult in the Middle East. As oil prices rallied hard in April, investors clamored to get on board with oil trades. Now, with crude prices down considerably, investors are wondering whether this trend has played out. We'll attempt to answer those questions.

Now on to this week's stocks.


First up is Chevron (CVX), the $210 billion supermajor that rings in as the second-largest oil company in the U.S. Overall, Chevron's trajectory has been upward in 2011, giving rise to a 14% gain in shares year to date. But that upward movement could be at risk, given the stock's proximity to trend-line support right now.


Basically, shares of Chevron are trading right at their trend line support level -- a level that acts as a sort of price floor for share movement. But that price level is under threat with oil's massive downward pressures; Chevron is showing expected weakness.


So how do you trade Chevron right now? If shares can stabilize and manage to hold within a modicum of their trend line support level, traders should wait for a bounce higher before going long. That said, the likelier scenario looks like a downside bet on a sustained fall below that support level.


A similar situation is taking place in shares of the ProShares Ultra DJ-AIG Crude Oil ETF (UCO), an exchange-traded fund that offers leveraged exposure to crude oil. Like Chevron, UCO is holding above trend line support but likely not for long. Because this fund tracks twice the performance of crude oil, it also tracks twice the losses when oil futures take a hit.


Things had been looking strong for UCO. As crude prices rose, the uptrend that the ETF was seeing accelerated, a typically good sign, but one that's rarely sustainable in the long term.


Since then, a negative divergence in momentum has signaled weakness in shares. That's not to say that this ETF won't become a good way to get leveraged exposure to oil in the future, only that now isn't looking like a low-risk entry point for shares. Wait until oil prices find some semblance of support before going long on any oil play right now.


Of course, traders looking to make a directional bet on oil don't have to sit on their hands. That's because shares of oil and gas servicer National Oilwell Varco (NOV) have already broken below their trend line support level. Now a reasonable price target for shares looks like the 200-day moving average down at $60.63.


As with UCO, National Oilwell Varco has had a negative divergence in momentum during the stock's last two attempts at making new highs -- that's a very big red flag for investors.

Likewise, volume is confirming that bears have control of this stock. If you're worried that it's too late to go short, don't be. I'd suggest a protective stop right at NOV's now-overhead trend line.


National Oilwell Varco, which shows up T. Boone Pickens' portfolio as of the most recently reported period, was recently highlighted on a list of 10 energy stocks with top buy ratings.


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