by Kevin Klombies, Senior Analyst

Tuesday, October 23, 2007

Chart Presentation: Crude Oil and the SPX

We have included three comparative charts of crude oil futuresand the S&P 500 Index. The chart at top right is from 2002- 2003, the chart below right from 2006, while chart below is from the current year.

In both 2003 and 2006crude oil pricesbegan to lift upwards from the 200-day e.m.a. line as the S&P 500 Index started to trend lower. After pushing higher for a number of monthsoil pricespeaked and turned lower and by the time prices had returned to the original starting point- about 25 in 2003 and 60 in 2006- the SPX was back to the original highs and ready to resolve to the upside.

The current cycle was quite similar into September with strength in energy prices going with a decline in the equity market. The difference this time was that the SPX returned to the highs largely on energy price strength instead of weakness.

Our thought is that the SPX may not move above the 1550 level until crude oil prices have fallen all the way back to the low 60’s.




Equity/Bond Markets

We are going to continue with the page 1 perspective. The idea is that the SPX may hold flat to lower until oil prices have declined all the way back to the low 60’s. In our two previous examples this occurred at the end of April in 2003 and late September in 2006.

At right we show a chart of Japan’s Mitsubishi UFJ (MTU) from 2003. Below we show Genentech (DNA) also from 2003.

In 2003 crude oil prices rose from around 25 to close to 38 and then moved back to 25 by the end of April. Notice on the MTU and DNA charts that these non-oil stocks did not swing higher until late April or early May. In other words in 2003 it wasn’t oil price weakness that turned the trend but rather oil prices reaching the first significant support level.

The chart at middle right shows JetBlue(JBLU) from 2006. We can see the same pattern on this chart. Crude oil prices peaked in early August around 78 and fell all the way back to around 60 by late September at which time thestock priceof JBLU began to rise.

The point is that a number of stocks that one might expect would rise on weaker oil prices did not actually begin to show strength until oil prices had fallen by a rather significant amount. The common denominator is that the turn came around the time when crude oil prices returned to level from which the original lift had begun. In both 2003 and 2006 this ‘lift’ started with crude oil futures sitting on the 200-day e.m.a. line so in theory the issue is not whether crude oil prices will decline back to the low 60’s but rather how quickly this can be accomplished. More on this on page 5.

The pharma sector was under pressure yesterday with Schering Plough (SGP) getting hit after missing earnings by 2 cents. The basic argument has been that the pharma sector trends with the ratio of equities tocommodities and the ratio should rise as long as there is downward pressure on both commodity prices and interest rates.

Weakness in thecommodity marketshelped support the SPX/DJ AIG Commodity Index ratio. In the recent past bottoms for this ratio have gone with lows for the pharma etf (PPH) which helps explain why the PPH closed at the highs for the day after a very negative opening.