Blue chip indices continued reaching new highs this week, but rising oil prices could soon cause the market advance to falter.

The Dow remains at an all-time high and the S&P 500 is at its highest level since 2000. The black line on the chart below is the S&P 500 and it is easy to see that it finally broke above resistance. The gold line is Merrill Lynch Oil Services HOLDRS Depository Receipt (OIH). Over the past year energy prices are flat, but oil prices have risen steadily since early January.

Last week I forecasted that the major indices would peak in May, then probably either move sideways or gradually correct. The lower two sections of this chart show why I think the indices are near a top. The middle section is a moving average convergence divergence (MACD). The blue line and the brown line on this indicator are showing that the S& 500 is at a highly overbought level.

The bottom portion of the chart is a Relative Strength Index (RSI) and it is also reflecting that the index is overbought. On the basis of these two indicators alone, one could prudently assume that the current market rally is about to run out of steam. But that does not mean that stocks are on the brink of an imminent collapse. Most economic fundamentals remain strong. Because of that we could see a situation where stocks worked off their overbought condition by going sideways.

At this point, the price of oil becomes a major, complicating factor. When fuel costs reach an extreme, it becomes very difficult for the market to advance. High energy costs impact every aspect of the economy. Consumers have less to spend because they have to pay more to drive and to heat and cool their homes. Grocery prices rise as a result of higher transportation costs. The cost of virtually every manufacturing process worldwide increases. The prospect for retail inflation increases and inflation is the greatest enemy of the Federal Reserve.

Businesses are left with the choice of either passing these higher costs on to consumers or bearing the burden of the increase and accept lower profits. Either scenario is bad for the markets. So if the price continues to rise. it could easily create enough pressure to cause the market’s sideways consolidation into a downward spiral.

Oil prices declined today when the U.S. government announced it is suspending purchasing oil for the country’s strategic petroleum reserve. It is hoped that action will remove some of the demand that has been driving prices up for the past few months.

I’m including a couple of links for anyone that might be interested in some historical analysis of oil prices.

http://www.wtrg.com/prices.htm

http://en.wikipedia.org/wiki/Oil_price_increases_of_2004-2006