A massive surge in new lows for energy sector stocks

Key points:

• Over 95% of S&P 500 energy sector stocks closed at a 1-month low 
• The breakdown in energy issues occurred within 15 trading days of a 6-week high  
• After similar conditions, the energy sector was negative 69% of the time over the next two weeks

Energy stocks plummet as crude oil reverses from a multi-month high

Three weeks ago, crude oil was ready to continue higher after it cycled from a 2-month low to a 2-month high in only 12 sessions. The party didn't last long. For only the 17th time in history, oil declined more than -15% in 15 or fewer sessions from a multi-month high, dragging energy stocks lower.

The downward momentum in energy equities pushed several breadth-based time series to an extreme level. 

One such indicator, the percentage of S&P 500 Energy sector stocks closing at a 1-month low, increased above 95% for only the 18th time since 1952. When I include the context of the spike in new lows occurring in 15 or fewer trading days from a 6-week high, like now, the signal returned 13 other precedents. 

I lowered the threshold from 95% to 84% to capture more instances.

Similar spikes in new lows preceded negative returns

When the percentage of S&P 500 energy sector stocks closing at a 1-month low exceeds 84% in 15 days or fewer of a 6-week high for the sector, the downside momentum tends to beget more downside momentum. Two weeks later, the sector closed lower 69% of the time. 

In the first two weeks, the max loss was greater than the max gain in 8 out of the last 10 signals. And the median max loss exceeded the median max gain in the one and two-month time frames.

When I drill down to individual groups within the energy sector, most sub-industries underperform the large-cap sector, which is not too surprising considering the sub-groups contain large, mid, and small-cap companies. 

Consistency in the first few weeks was extremely weak in the exploration and production group, which is accessible via the ETF (XOP). 

From a price pattern perspective, the S&P 500 energy sector looks like it's forming a rolling top formation. A break below several support levels could complete a significant top. 

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What the research tells us...

Energy stocks, which rarely decouple from crude oil for long, plummeted in the last few weeks on the back of a significant reversal in oil. The swoon sent the percentage of S&P 500 Energy sector stocks closing at a 1-month low, surging above 95%. A spike in new lows of this magnitude in 15 or fewer trading days of a 6-week high does not bode well for energy issues over the next few weeks. From a big-picture perspective, one must be mindful that the energy sector could form a significant top. So, the spike in new lows is a sign of distribution.