Oil Soars, But Market Suffers More Indigestion

What a crazy start to the week… Oil continued its dramatic reversal off the lows, blasting as high as $49/barrel in Monday trading, up close to 30% seemingly overnight from last week’s $38 level. As you’d expect, shares of energy producers and other commodity sector companies soared.

A relief bounce rapidly turned into a round of frantic short covering that had embattled producers such as Linn Energy (LINE) up 70% in three trading days.

With all that enthusiasm for the market’s weakest sector, and the rapid 10%+ recoveries in major oil players such as Chevron (CVX), you’d think the broader market would have some more support.

But no, that hasn’t turned out to be the case. Despite the rally in energy, stocks were weak on Monday, falling moderately, but setting off another round of big volatility buying in the “fear ETFs” such as VXX and UVXY.

And Tuesday morning opened to scenes of another bloodbath, just like we’ve been getting for the past two weeks. The Dow opened nearly 400 points lower to start the day.

At

fault, so it would seem, are weak data from China reminding investors that the commodity bust is likely to drag on for longer yet. For investors that had been bidding up embattled oil and metals producers, along with emerging markets such as Brazil (EWZ) it was a big slap in the face.

As we noted in “Relief Yes, But The Bears May Not Be Done” last week, the market is likely to experience more aftershocks in the wake of a big out of the blue dive. Like in 1998, the market is now likely to swing violently from euphoria to despair and back as new events are digested by an unstable investor base.

Since the US plunge in recent weeks had been driven by concerns over the oil market and its effects on emerging markets such as Russia and Brazil, along with the weakness in China, you’d have thought that the big recovery in oil on Friday and Monday would have alleviated much of investors fears.

Given that this hasn’t been the case, it seems that the current panic, while it may have started with oil concerns, has now morphed into a broader period of instability. Investors are questioning fundamental valuations of tech and other leading companies, something we’ve hardly seen during this six year bull market.

While it’s early to say the bull market is ending, there’s certainly a feeling that we may be topping, given the market’s inability to make new highs all year and now the repeated bouts of violent selling.

Last week may have served as a sort of wake-up call for investors to reconsider their risk exposures. After years of easy gains buying and holding, complacency has set in, and many investors are, with a jerk, now remembering that stocks can and do run the risk of facing substantial losses as well as the gains.

What’s the takeaway for us investors today? As long as the markets remain volatile and unstable, it’s a good time to keep cash available, make smaller trades, and prepare for the unexpected. Like last week, this may be a good time to get some limit orders ready to buy your favorite stocks at crazy prices. If the market closes Tuesday’s trading poorly, it wouldn’t be surprising to see another big chaotic dive at the open Wednesday.

Looking farther out, this period of jittery uncertainty is likely to persist until there’s more clarity on the potential Fed rate hike. It had appeared the hike was off the table with last week’s market troubles, but discussion at Jackson Hole over the weekend showed the Fed hike is still in play. With the market uncertain whether the flow of cheap funds is drawing to a close, fear remains elevated.

Additionally, stay focused on the oil market. The past couple day’s action has been nice, but it could easily head back down to 40 in a flash. The move up to 49 had more of the markings of a gigantic short squeeze than anything substantive. There’s been no fundamental news out of OPEC or elsewhere that would effect supply, and China shows demand is likely still dropping.

If you own a heavy stake in oil producers such as Chevron or Exxon (XOM) and were feeling sick to your stomach with last week’s massive drops, this might be a good time to reallocate some of your holdings. Even with Tuesday’s drop, Chevron is still at 78, up 9 points from last week’s low at 69. If you have to sell anything, better to do so into a big bounce than at the lows when everything feels darkest.

And for bargain hunters, let’s see if the Tuesday dip turns into a full-on nosedive before deploying too much capital. With markets this jittery, there’s generally been no rush to pile into new positions.