While the price of oil has tumbled dramatically in recent weeks, its monthly momentum turned positive in October. And since momentum often precedes price, investors should pay close attention to this development.
The Coppock curve is a price momentum indicator designed by Edwin Coppock in the 1960's to detect major equity bottoms while minimizing the risk of subsequent reversal. We recently applied this indicator to crude oil, which has fallen nearly 65% since July 2014, when the world suddenly recognized the power of shale.
The attached chart presents the Coppock curve for West Texas Intermediate Crude going back to 1965, using month-end prices and traditional Coppock parameters – that is, 11- and 14-month rates of change, smoothed with a 10-month weighted moving average.
The price of crude is highlighted in red at times when the Coppock curve is rising from deeply oversold territory. “Deep” is defined somewhat arbitrarily by the -40% line in an effort to pick up more than a handful of comparable market environments. As you can see, price has almost always continued to rally after the indicator has turned upward from this zone. The lone exception occurred in Autumn 1998 in an environment of emerging-market turmoil and widespread financial distress. (Russian currency crisis and Long Term Capital Management.)
So will momentum precede price, as is generally the case? This question cannot be answered precisely, but the odds of an important reversal have improved. Caveat: a final wipeout comparable to 1998 would be especially compelling from a contrarian perspective.
There is, of course, nothing magic about the Coppock curve. A mathematical transformation of price is just another way of “paying attention” to price. Any useful indicator must be grounded in common sense. In the case at hand, the Coppock indicator is simply saying that, after 17 months of terrifying trajectory, crude is extremely oversold by historic standards and showing nascent signs of exhaustion.