XLE Caution If You Are Long

I'm becoming cautious on the energy sector (XLE) as we move into the new year even though the sector has been in a nice uptrend. You'll notice on the above chart that XLE (top panel) formed a weekly Bearish Engulfment. XLE has been reversing it's trend every time an engulfment candle appears. XLE had a bearish engulfment in October of 2005 and in January of 2006...Each of these candles correctly warned of a top. The bullish engulfment the XLE formed in September of 2006 also triggered a change in trend which began an eleven week rally. Now we have a bearish engulfment so right away a red flag should go up.

In the lower panel we have a chart of USO which is basically crude oil. Notice how the two markets (USO and XLE) correlate well with eachother. Both markets have been moving the same way until now. XLE has been trending higher while USO has been trending lower (August 2006 to December) . I take this as a bearish sign for XLE and when you combine this with the weekly bearish engulfment, I feel prices will go lower. So if you are long XLE, tighten up those trailing stops!