From the desk of Steven Strazza @Sstrazza and Ian Culley @Ianculley
Risk assets are under pressure.
Failed breakouts and significant retracements have materialized across cyclical areas of the market, including the Russell 2000, the energy and financial sectors, and, of course, commodities.
The energy complex has endured the most severe damage in the commodities realm, with crude oil leading the pack lower. Last Friday’s session was a bruiser, with crude dropping $10 to close out the week.
This kind of volatility can be alarming for any investor.
But when we zoom out–as we like to to at the end of each month–and focus on commodities as a whole, two key takeaways come to the forefront:
- The underlying uptrend is still intact.
- A period of digestion within the ongoing trend is well deserved.
Let’s take a look at a couple commodity indexes and try to put the recent action into perspective.
First up is a monthly chart of the energy-heavy CRB Index:
A long-term view of the CRB Index reveals the incredible strength from commodities since last year. November was only the fourth down-month since the index bounced off its 2020 lows. This is a very strong structural uptrend, and one month of selling hasn’t changed that!
Also, notice how price has just broken out of a massive multi-year base. This suggests a reversal in the primary trend from sideways to up is underway. Following a fresh breakout and a long leg higher, it’s perfectly normal to enter a cool-off period with some corrective action.
Last month’s selling pressure does not change the primary trend or call into question our commodity supercycle thesis. We continue to believe we’re in the early innings of a major bull market in commodities.
What would change our view? We’re looking for a close below those 2018 highs around 200 in the CRB. This would put price back beneath the upper bounds of the multi-year base it recently resolved from and represent significant damage to the structural trend. But there’s still plenty of room until we need to worry about that happening.
We can also look to our equal-weight index to gauge the health of the present uptrend in commodities:
We like this index because it removes the CRB Index’s heavy bias toward energy. The result is a more balanced view of the action in the commodity space.
At first glance, the two indexes look similar. Both have broken out of multi-year bases and have rocketed off their respective 2020 lows.
Unlike the CRB Index, the ASC EW33 Commodity Index peaked in May with other cyclical assets. Since then, it has chopped sideways within a tight range. It looks a lot like small-cap stocks, doesn’t it? Again, this type of prolonged consolidation is perfectly normal price action after the explosive moves experienced during the past 18 months.
The charts are telling us there’s nothing to be concerned about at this point.
That only changes if this continuation pattern in our equal-weight index does not resolve in the direction of the underlying trend. Continuation patterns are meant to continue, and that’s exactly what we’re anticipating for commodities. If it fails and becomes a reversal pattern, that would not bode well.
Commodity bulls want to see the EW33 index hold above its 2013 highs around 195. Just like 200 in the CRB, this was a major base breakout level. If we lose that, our bullish outlook for commodities as a group will come into question, and it will be time to re-examine our broader thesis.
For now, nothing is alarming about the recent action. Corrections are normal occurrences, even in uptrends.
The present trend is still very much intact and pointing higher. If and when that changes, we’ll be right here talking about it.
COT Heatmap Highlights
- Kansas City Wheat: Commercial hedgers are only 10% away from their three-year-record short position.
- Coffee: Commercial short positioning continues to inch closer to its three-year extreme.
- Palladium: Commercials are only a few hundred contracts shy of their historic long position.
- US Dollar Index: Commercial hedgers’ net short positioning hovers near extreme levels.
Thanks for reading! Let us know what you think.
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