The Dollar, Gold, Copper, and Oil

September 12, 2009 · Posted in Weekly Posts · Comment

We want to look today at the market picture that the US dollar, gold, copper, and oil and their associated producers are painting. Much of what has driven equity markets higher, especially in the US, is the thesis of massive government injected liquidity re-igniting growth (and hence commodity demand) while the US dollar falls making commodities priced in US dollars, rise in price. The commodity producers have in turn risen in price. What we have seen in the last number of weeks however is at best a consolidation in these commodity markets and at worst signs of a coming trend reversal. As these companies have provided much of the leadership for US equities, their breakdown could be important for the broader market.

First, looking at the US dollar we see that the dollar has dropped now for multiple days and dropped hard. The RSI is fast approaching 30 which tends to indicate that some near term bounce is in order. So the odds are we will soon see either a short term bounce followed by renewed selling, or a longer term counter-trend rally. The alternative is further selling but further selling at his point leads us to think of an accelerated, disorderly decline. The charts do not give any better guidance other than this. However, if the dollar rises that will generally be bad for commodities and their producers as well as every other sector that is trading on the thesis that a declining dollar is good for stocks. The exception may be precious metals which are showing hints of moving on their own rather than tracking the dollar. A disorderly dive in the dollar though will not be good for stocks either. Name us one country that has experienced a currency crisis (disorderly drop in value) were the stock market rallied during the crisis? We don’t believe it has ever happened. So we think that either way the dollar goes right now is likely negative for stocks and likely negative for commodities as well.

USD 09/11/2009

Looking at copper and XLB, the basic materials SPDR we note that copper and JJC, the copper ETN, are forming a bullish ascending triangle but we note that copper tested the lower trend line Friday and hence needs to rally if this is to remain a viable patten. We also note that copper as declined the last three days despite the US dollar also declining. This raises the concern of whether decoupling is emerging. The XLB basic materials sector and FCX, a bell weather stock, formed rather wide, loose consolidation patterns but volume has failed to confirm their breakouts to higher prices. We also note that the producers have rallied the last few days while the commodity has fallen. Not the behavior we would expect in a bull market. The price/volume action appears very similar to the low volume news highs that were seen in June just before the sell off started.

Copper and XLB warrant a close watch. If copper breaks below the lower trend lie then we would expect the producers to follow suit and we would look to short both. It also is advisable to watch the copper/dollar relationship to see if a breakdown is coming. A rising US dollar would send both copper and the miners down. So the potential for a reversal in the dollar that we discussed above is important. Could we have the producers fall and copper break to the upside? Yes, if the US dollar decline became disorderly and copper began trading on dollar concerns more than on economic growth concerns. We also note that the copper market is becoming worried about looming contract renewal negotiations across the world that are approaching. The potential is very likely that we will see supply disruptions due to labor strife.

Copper 09/11/2009

JJC Copper ETN 09/11/2009

XLB 09/11/2009

FCX 09/11/2009

Moving on to oil, we see similar divergences and non-confirmations as we did with copper but with one exception - oil is showing signs of already starting to break down. We expect that oil and the oil related stocks will correct from here irrespective of the dollar.

West Texas Intermediate Crude 09/11/2009

XLE Energy Sector SPDR 09/11/2009

OK Murdock is there anything that looks good? So far this post is a real downer!

Funny you should ask…

Let’s take a look at gold. Gold closed above $1000 an ounce Friday, showing strength into the close, strong volume, and further, this was a weekly close. That is important. It is worth noting that this is the third attempt by gold to break through $1000 and stay there. The other two failed quickly. On this attempt gold went through $1000 number of times only to fall back so the weekly close (traders square positions on Friday) above $1000 is important.

Now, if the dollar rises we have to watch gold’s reaction closely to see if gold is continuing to trade in tandem with the dollar or if it will start to dance to its own tune. Note that August import prices were DOUBLE what analysts had expected on Friday. The media put that down to oil but the fact is that oil is a big component of every thing we buy. A declining US dollar will eventually result in inflation as everything that we import will begin to cost more - and we don’t make a lot in the US anymore.

Now, the media is hyping gold. Many gold analysts are nervous about the media hype and are hesitant about gold’s chances because of the weak fundamentals. First, we think the media can be discounted in this case. They will hype whatever moves. The fact that most gold analysts seem to be hesitant we think is a bullish sign.

If we go back in time to a few weeks ago, Indian and Turkish gold demand was weak - it still is. Investment flows had dropped substantially over the summer - they are probably still down. Now however,we have some new dynamics at work. First, Chinese consumers passed Indian consumers in gold imports for the first time. This is major as it greatly expands the retail base. Secondly, word is coming out that China is actively buying gold as part of its efforts to diversify away from the US dollar. By actively buying we mean on the international market, not just from domestic miners. This is also huge as it puts a floor under the price. Thirdly, Barrick stated that they were closing out their hedge book and had to buy well over 100 tonnes of gold to do it. This is short term but supportive. All that is new news in just the last two weeks.

As for investment flows into gold, we have had a goldilocks period lately with enough “good” news to keep the stock and economic bulls happy while the bad news, some of which we think will become terrible, has been ignored. Further, we have had no geopolitical issues for some time. So we expect that investors held off further investment gold purchases as the global situation began to improve. We expect this will change as the fall progresses. Gold will have sell-offs and some will be quite severe so keep stops in place to protect profits and remain prepared to buy back in if you get shaken out.

Gold 09/11/2009

GLD 09/11/2009

GDX 09/11/2009

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