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AMEX Oil Index (XOI)

David Petch
June 2nd, 2005

The continued surge in the price of oil confirms that oil supply is scarcely meeting demand. The excess demand is coming from China and India and will only get stronger. I do not have the numbers, but each barrel of oil holds so much energy or equivalent to man-hours. This energy has been used to drive technological innovation and population growth the past 100 years and soon will be in a decline.

Often I here this is like the 1970’s but it will be much worse. The population by 2015 is likely to be around 7-8 billion people, nearly double of 1970. Due to the huge squeeze for energy, oil consumption is extremely high, so the decline could be 10%/year from current production levels instead of the very conservative 3% per year. The year 2015 could see as much oil produced during the late 1970’s, with double the demand, so it is in societies best interest to begin preparing for a major change in society.

There is nuclear energy, with some 6 billion pounds of known reserves. At 180 million pounds of consumption per year, with 5% increases year over year (very conservative), the known amounts of Uranium in the ground would hit the half way point around 2013-2015, with total depletion around 2021. Even if the ore body size doubled, it would be a feat to extract the ore, since energy is required in the process.

Wind power is a very good alternative, around for centuries and made famous by the Dutch who used the mill power to grind wheat to flour. The windmills of today are made of steel, with motors and wired in to power grids. Huge batteries are being set up in Holland to capture free energy to use when it is required. There is a certain amount of energy required to make a windmill and once oil is in decline, the manufacturing process will increase in cost.

Currency inflation by the expansion of fiat money does create inflation, but it is triggered by environmental pressures. As a nation grows and needs more resources, a gold-backed currency will restrict growth; a paper currency with no backing however can go to infinity. This is a part of an economic cycle that is as natural as water flowing in a stream. With peak oil soon to arrive before 2008, all countries will be competing for a depleting resource. This competition is met with currency expansion to allow purchasing resources. At some point the dilution of fiat money will be reflected in the price of gold. Gold could climb to levels most think impossible, but given the hidden debt levels that must be repaid, it could become reality.

A resource shortage is not a deflationary event, simply due to supply and demand. Shortages will only lead to higher prices. At the end of this commodity bull market, around 2015-2017, there will be a huge deflationary collapse, but not until the natural cycles of the economy are allowed complete.

Investment in oil stocks and gold stocks, bullion etc. is an absolute requirement for individuals wanting to preserve capital.

AMEX Oil Index (XOI)

The 10 minute data chart of the XOI is shown below. The short-term stochastics have the %K curling up, suggestive June 2rd will be an up day. The slope of the index rise since the bottom on May 16th is approximately 45o, with suggests there is still significant upside prior to completion of the current wave up.

Figure 1

The lower Bollinger bands recently converged and are starting to fan out, suggestive a lower ribbon pattern will soon start to develop. The upper Bollinger bands are in a consolidation pattern and will likely unite with a rising index over the coming weeks. The short-term stochastics recently broke out of a wedge, suggesting the current up trend has at least 1- 2 months of upside from the low (early to mid July).

Figure 2

The 50 day moving average is currently support, while the 155 and 200 day MA’s are still rising at a gentle slope. A test of the 155 day MA confirms the current market support and strength for oil. With the 2008 Olympics being held in China, energy will be a hot commodity between now and 2008. Gold and silver, and related stocks will do well, but I believe energy will be the most critical during the next 5 years for dictating who will control global power for the remainder of this century (this is how critical a juncture we, as a global community are in). The full stochastics below are on a longer-term setting and recently had the %K hit the lower horizontal channel line before curling up. The coming crossover of the %K above the %D and prior data suggests a 2-3 month in the current leg up exists for the XOI. After this pattern completes, expect a 10-12 month consolidation prior to the next leg up (refer to Figures 5 and 6).

Figure 3

The weekly XOI is shown below, with Fibonacci retracements of the current advance from early 2003 shown on the right hand side. The XOI is likely to go to 950-1000 on this current leg up. After, a retracement to 700-750 is expected. Note the lower 55 MA Bollinger band at 516. Given the current trajectory, it will take until mid 2006 prior to the lower 55 MA BB hits 750-800. Bollinger bands are a measure of volatility, and time is a required element to work off the spread seen below. The full stochastics are on a short-term setting to show that the %K has not declined to the recent low since the bottom was put in at 400ish in the XOI. The prior data suggests the current upward trend in the XOI has 2-4 months upside, or late summer/early fall.

Figure 4

The mid-term Elliott Wave count of the XOI is shown below. Recently, the wave [iv].5 correction completed a downward sloping channel, which is labeled as a double combination complex correction (zigzag (5-3-5) – non-limiting triangle (3-3-3-3-3) – double zigzag). The current advance off the low above 770 is an impulsive pattern. As mentioned last week, the XOI was expected to test the upper trend line early this week before continuing higher. The size of wave (i).[v] stands to be 80-90 points. If wave (ii) retraces wave (i) back to 820 and wave (iii) is 1.618x longer than wave (i), wave (iii) would terminate around 900-930. Wave (iv) declining to 870ish would see wave (v) likely move to 960-1000. This pattern will take a minimum of 2-3 months to complete. The next chart discusses the coming retracement of the entire wave since early 2003.

Figure 5

The longer term Elliott Wave count of the XOI is shown below. The pattern currently has an extended fifth wave pattern with subdividing waves, that has been defined by the lower 2-4 trend line. Normally, when the fifth wave of a pattern completes, is will touch the 2-4 trend line in a time period equivalent to or less than the fifth wave took to form. As seen at wave [ii].5, it never did hit the 2-4 trend line and suggested the power moves since then. The current correction down in wave [iv] took longer to bottom than wave [iii] took to form, suggestive it is part of the wave 5 structure. When the XOI tops out late this summer, the price of oil could still keep rising, much like the gold stock and gold relationship in late 2003 early 2004. The important take home message is that wave 5 has been forming for the past 10 months (likely taking up to 1 year to complete), so a touch of the 2-4 trend line has allowance for up to 1 year theoretically. Given the trend line is rising at 45o, the XOI is expected to consolidate from September 2005 until Mayish 2006 before beginning wave (3). I think the XOI could have a compressed cycle relative to the gold stocks, because after people make a ton of money in energy, it will then try to find a home for capital preservation. The HUI will do well, but much, much better after 2008. Around that time, expect a parabolic move, due to the market being so small.

Figure 6

I will update the 10 Year US Treasury Index tomorrow AM, and some information I have compiled on wind farming.

David Petch

June 2nd, 2005

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