Energy Is Now Primed For A Big Rebound

I know.  I know.  It's been the worst sector and the second worst sector isn't even close.  Look at this sector leaderboard for the past six months:

The XLE is the ONLY sector in negative territory.  Its SCTR score is 2.3.  What the heck could trigger a rally?

The U.S. Dollar ($USD).

It began rolling over late last week and I believe it could continue for awhile.  The PCE index from the Q4 GDP report on Friday showed inflation WAY below the Fed's 2% target level and that'll either keep the Fed on hold on rates for a long time.....or it might trigger pressure on them to lower rates again.  That will put downward pressure on the dollar.  There's already pressure on the dollar to move lower, however:

U.S. treasury yields are dropping much faster than treasury yields abroad (most notably in Germany, shown above).  The direction of that relationship generally triggers a similar reaction in the USD.  That's what the bottom panel above (correlation) tells us.  We spend a lot more time in positive correlation territory than we do in negative (or inverse) correlation territory.  I see the dollar falling and both energy (XLE) and materials (XLB) strengthening on a relative basis.  I don't expect this to be a long-term change in direction, but 1-3 months wouldn't shock me.

There's another chart you should be aware of:

50-52 is an important support zone.  Given a potential target near 72, the reward to risk entry into the XLE here makes a lot of technical sense.

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Happy trading!

Tom