Signs pointing to energy sector stock rally

The Stock

Vero Energy Inc. Recent price $4.76 Trend

The S&P/TSX energy index hit a 52-week high last week, an achievement the sector has not enjoyed since its peak in May, 2008. Although Stock Trends Bullish trend for over four months, the index struggled to build momentum in the third quarter. Solid share price advances in October, though, have put a twinkle in the eye of investors keying on oil and gas stocks. As the price of crude oil inches toward $80 (U.S.) and the winter chill approaches, expectations of a sector rally are finally being aroused.

Most encouraging for the sector, though, is the revival of natural gas stocks - even in the absence of a clear break in the bearish trend of natural gas prices. After bottoming earlier this year gas stocks and trust units are on the upswing. The shares of EnCana Corp. are tapping on price resistance at the stock's May high. A solid move above $65 (Canadian) this week would bode well for this bellwether gas stock and other gas plays. The performance of Bonavista Energy Trust, a trust that made a significant purchase of some of EnCana's natural gas assets in July, is also worth noting. It has an impressive rally under way - up 33 per cent since the news of the acquisition. These signs may indicate that a turning point for natural gas stocks is upon us.

The Trade

Vero Energy's recent stock performance has shown that investors are gaining enthusiasm for junior natural gas producers, too. Stock Trends Weak Bearish (meaning the share price has advanced against the prevailing bearish price trend) since breaking out on high trading volume in September, Vero Energy jumped another 17 per cent last week amid the energy sector's advance and prior to the $12.5-million bought deal financing announced Monday.

Trading volume has remained strong for the past six weeks - enough to help Vero Energy eclipse the stock's September breakout peak last Thursday. This is a good technical signal, giving investors an indication that the stock will build further price momentum. The stock should be a Stock Trends Bullish Crossover this week, indicating that the long-term bear trend has given way to a new bullish trend. Although Vero Energy has already rallied 68 per cent higher since early September, investors are not too late to make this trade.

The Upside

The shifting long-term trend improves the prospect for more short-term advances in this stock. The next technical share price resistance level for Vero Energy is another 20-per-cent advance above the current price, a move that would still leave the stock halfway short of its bull market 2008 peak. Vero Energy is outperforming the S&P/TSX composite index by almost 50 per cent over the past three months and will continue to attract momentum traders willing to bet on the rebirth of natural gas stocks. Trading volume in the stock is now much stronger than it was at Vero Energy's peak, and could help fuel an even more impressive fourth-quarter rally.

The Downside

Every momentum stock has the distinct risk of impending failure. Sometimes this comes through demand exhaustion. Sometimes it's supply expansion - profit-taking and a nasty correction. Investors will need to plan an exit near the late September low of $3.67 - a 25-per-cent downside risk.

Special to The Globe and Mail

Skot Kortje has been analyzing stock market trends for 15-years using trend analysis. His Stock Trends indicators have been published by The Globe and Mail since 1995. For more go to Stocktrends.ca