Confirmation From Dr. Copper

From the desk of Steve Strazza @Sstrazza and Ian Culley @Ianculley

Copper was a critical piece missing from the intermarket puzzle heading into the fourth quarter.

Just last week, copper was testing year-to-date lows and looking vulnerable for a downside break. Meanwhile, energy futures and interest rates were rising, and cyclical and value stocks were getting back in gear.

The mixed signals were impossible to ignore. It’s not likely that the recent breakouts in crude oil and the US 10-year yield would hold in an environment where copper is breaking down.

Dr. Copper is a great leading economic indicator and critical to the global growth narrative. Let’s see what it’s saying.

Here are two ways we were looking at the copper chart:

We were wondering whether this was a major head-and-shoulders top or just a continuation pattern that would ultimately resolve higher in the direction of the underlying trend.

Our bet was on the latter as long as the recent breakouts in crude oil and rates held. And they have. 

Now, copper futures are reclaiming their former 2011 highs and are up more than 10% on the week. 

Here’s an updated daily chart of copper futures as of yesterday’s close:

This breakout gives us a lot of information regarding the validity of the recent moves in rates and other risk assets. Copper’s explosive move confirmed what the rest of the market has been implying for weeks now…

This is the beginning of the next leg higher within a cyclical bull market.

And how do we want to play it? Well, one way is to be long copper above 4.40 with a 2-4 month target of 5.85.

The copper/gold ratio and the US 10-year yield are two related charts we want to watch:

Both look poised for an upside resolution.

If copper is outperforming gold and the 10-year yield is rising, our course of action is clear. 

We want to be buying stocks and commodities, not bonds.

For commodities, we want to focus on procyclical groups -- think energy and base metals.

For stocks, we want to lean on cyclical and value areas like financials, energy, and materials. Industrials and transports should be doing well in this environment too.

We also want to pay close attention to emerging markets as we’re seeing risk appetite improve around the world.

Markets are finally beginning to find direction after a classic year-two chopfest. We’ll continue to keep you posted as resolutions roll in and crucial information is confirmed.

COT Heatmap Highlights 

• Minneapolis Wheat: Commercial hedgers are the most net short in history.
• Coffee: Commercials added to their short exposure and are less than 400 contracts from their most extreme short position in three years. 
• Palladium: Commercial hedgers are quickly reducing their long positions after making a new record just last month. 
• Cotton: Commercials have slightly reduced their shorts but remain less than 8% away from their three-year short positioning extreme.

As always, let us know what you think.

We love hearing from you. Thanks for reading, and be sure to download our Commodity Report below!