Commodities and Construction Market - Deep Analysis
14th Aug 2018
FUNDAMENTAL ANALYSIS
The analysis that follows in my discussion is quite deep, be prepared for some solid insight into the market for commodities, global economic analysis and the current situation of this 'trade war'. As such, I will endeavour to succinctly tie up fundamental and technical analysis to provide you with a good understanding of the market for construction metals and materials. These include: copper, lead, iron ore, zinc, aluminium, lumber wood and to a lesser extent nickel, platinum and other rare-earth metals.
The reason why the global construction will affect those metals and materials, is that most of the mass building done in China and US (the two largest economies with high average GDP growth rates) will rely heavily upon those commodities. For example, residential property developments will use a large amount of lumber wood as a structure, copper will be used for wiring approximately 65% is used in electrical applications* (switch gear, wiring and circuitry, semi-conductors, conductors and transformers) and 25% is used directly in construction for industrial applications (Irrigation and agricultural sprinkler systems, piping at distillation plants, seawater feed lines).
[url=*thebalance.com/copper-applications-2340111 ]*thebalance.com/copper-applications-2340111
As we all know China and US are having a bit of diplomatic relation strains. The Cold War mentality of a burgeoning trade war does not bode well for the global economic climate. In fact today, Reuters news released an article stating that China is hoping to expedite plans of investment: " The Chinese government is expediting plans to invest billions of dollars in infrastructure projects as its economy shows signs of cooling further, with investment growth slowing to a record low and consumers turning more cautious about spending."
"With its trade war with the United States threatening to pile more pressure on China’s already slowing economy, Beijing on Tuesday reported downbeat economic data, rolled out a $14 billion urban railway plan and pushed local governments to speed up issuance of special bonds for funding infrastructure projects."
https://www.reuters.com/article/us-china-economy-activity/chinas-economy-cools-further-investment-growth-at-record-low-idUSKBN1KZ04Z
The implications of declining investment is that aggregate demand falls (AD = Consumption + Investment (private)+ Government Expenditure (investment) + Net Exports), enabling a lower economic growth rate. The reason why economic growth increases and decreases are important to the commodity market for construction metals and materials, is that increases in economic growth are highly correlated to increases in those commodities. China, in particular has a urgent need to spend on 'infrastructure projects' or otherwise capital goods -goods that are used in producing other goods, rather than being bought by consumers. This is a just fact that China is an emerging economy with a high population, so has greater need to spend on improving infrastructure than the US.
So my analysis continues that by having a trade war, tariffs, subsidies, quotas and other protectionist policies become the main bargaining tool. This puts considerable risk on global economic growth, as naturally trade quantities and values lower due to a greater inefficiency in the production and exportation of goods. As this risk increases, business investment gets put on hold so less construction of new buildings, warehouses, storage facilities etc. This decrease in investment will be multiplied throughout the economy (the multiplier effect) and a perhaps 250B decrease in business investment actually has a 11B to 1.25B actual effect on the economy. The effect on commodity prices is that a trade war decreases demand and supply for exports, which leads to a decrease in economic growth, leads to a decrease in investment, leads to a smaller intention for businesses to expand or do construction, which leads to a huge decrease in demand for building supplies, leads to a decrease in the price of crucial metal and material construction commodity prices. See how it is very important to follow the money trail.
The economics is really important for long to medium commodity trading and prices as economic growth always reflects a demand for raw materials i.e commodities. Strong economists out there may comment to me, " you forgot about the time lag, decreased demand in copper doesn't happen over night". Well, yes but there are two major fundamental factors affecting it. The first one being that the financial markets (all globally traded markets including that pesky bitcoin) always reflect the most recent information as speculators (you and me) are merely hoping to make a profit not actually take delivery of 1000 tonnes of iron ore. Speculators represent the majority of financial market participants, look at FX, only a very small percentage of buyers and sellers are trading currency to settle imports and exports. That's why when economic data comes out or major events unfold (think Brexit and GBPUSD) changes happen within a couple of minutes. The other crucial factor is that lack of trustworthy in the Trump Administration by world leaders in business and commerce don't want to see how 'it plays out'. They will not take such risks, so will be risk averse, putting even more pressure to halt any type of capital expenditure. The market will reflect this sentiment.
TECHNICAL ANALYSIS
This neatly bring me on to my technical analysis. In the chart, I have two securities: Copper (line is copper colour) and NAIL - a leveraged ETF that provides 3X exposure to home construction and supplies businesses operating in the US. I have put these two together as they show a strong price correlation as copper is commonly used in homebuilding industry. As you can see, the inclines, declines, tops and bottoms are quite similar. Copper, after falling from its high, has developed a descending triangle. This is the most significant triangle pattern as it shows a quite a strong bullish outlook. The support line is horizontal, showing that bears have failed to push it lower, and a decline a resistance line also states that the bears are running out of momentum. Also, there is low volume, always a good signal that major move is coming usually but not always bullish. (I think I read it was like 71% success rate of bullish outcomes following a descending triangle, but don't quote me). There are two momentum indicators colour-coded for ease of reference. So Copper Momentum is trading in a bullish price channel indicating that there is a strong bullish sentiment, albeit not yet reflected in the price. It provides some insight to a potential reversal coming.
Also, NAIL ETF has developed a price descending wedge. Given it is descending and following a recent bottom, it points quite strongly to a bullish breakout. Further consolidating this point, is that NAIL momentum indicator is also in a triangle pattern. Triangle patterns can go either way, and it is incredibly hard to determine which way it will break out. All I know definitively, is that following a triangle breakout, the price can trend 1 to 1.618 even 2.618 the vertical height of the triangle, so be ready for a break out.
Also, I have constructed another correlation chart with lumber wood futures and NAIL ETF, it shows a similar representation of the current chart, however there is an almost perfect 5 month time lag. I'm not yet confident on my analysis for that pairing yet but it still provides some insights that can be related to my analysis here. I have linked it at the bottom. Take a look, its very interesting.
Link: https://www.tradingview.com/chart/LSU2018/tXMbZcw8-Commodities-and-Construction-Analysis-linked-to-main-article/
A very important point to consider for NAIL ETF, is that rising interest rates play havoc on mortgages which is an extension of home owner and investment property mortgages. This is also a another variable that will negatively impact the NAIL ETF, however, I am not sure to what extent it manipulates price.
CONCLUSION
Combining all my analysis both fundamental and technical, I can conclude that the commodity market is at a general 12 month low. This is the result of downgraded global economic growth forecasts at the beginning of 2018, a significant equities and cryptocurrency correction as well as the worsening trade war between the world's two biggest and most important economies in the world. As a result, the broader economic situation has put significant selling pressure on commodities, with declines more pronounced in construction metals and materials. This is most likely due to the fact that the demand for capital good spending for both economies has declined given tangible impedances to economic growth for both China and US. The market sentiment has changed quite rapidly since January of 2018. As economists and market analysts have increasingly pointed out, there is a range of serious issues affecting the global economy and it seems to be spiralling out of control.
At this stage, my analysis points out that my long term view(6 to 18 months) is quite bearish, there are no signs of negotiation in the trade war, the equities market has posted its high in January, increasing interest rates, approaching a yield curve inversion - a sign of short term angst and instability (GFC was reported to have a inverted yield curve) and no safety nets such as the global investment and global commodities boom that helped us get past the GFC so quickly. So naturally I have a bearish outlook, unless there is a major change in trade war negotiation or the like, we are poised to slowly reach 2016 commodity price lows.
My short term view is however, slightly bullish, at least for copper. As both securities are showing strong divergence in price and momentum, and both showing bullish chart patterns, I am 70% confident that a short term bullish trend may evolve, however no longer than a month. Also, my view is consolidated by China's recent decision to issue considerable amount of treasury bonds to finance its plans for capital goods and infrastructure. As such, a demand in iron ore, copper, aluminium and lead is feasible, pushing up those prices. However, the extend of the price rise is directly related to the amount of capital expenditure they plan to do. Nevertheless, a short term trend reversal seems probable given all the information available.
That's my analysis, I hope you enjoyed it. I know its long but I spent a lot of time writing it and researching. Please give a like, comment and follow. This is the quality I give.
FUNDAMENTAL ANALYSIS
The analysis that follows in my discussion is quite deep, be prepared for some solid insight into the market for commodities, global economic analysis and the current situation of this 'trade war'. As such, I will endeavour to succinctly tie up fundamental and technical analysis to provide you with a good understanding of the market for construction metals and materials. These include: copper, lead, iron ore, zinc, aluminium, lumber wood and to a lesser extent nickel, platinum and other rare-earth metals.
The reason why the global construction will affect those metals and materials, is that most of the mass building done in China and US (the two largest economies with high average GDP growth rates) will rely heavily upon those commodities. For example, residential property developments will use a large amount of lumber wood as a structure, copper will be used for wiring approximately 65% is used in electrical applications* (switch gear, wiring and circuitry, semi-conductors, conductors and transformers) and 25% is used directly in construction for industrial applications (Irrigation and agricultural sprinkler systems, piping at distillation plants, seawater feed lines).
[url=*thebalance.com/copper-applications-2340111 ]*thebalance.com/copper-applications-2340111
As we all know China and US are having a bit of diplomatic relation strains. The Cold War mentality of a burgeoning trade war does not bode well for the global economic climate. In fact today, Reuters news released an article stating that China is hoping to expedite plans of investment: " The Chinese government is expediting plans to invest billions of dollars in infrastructure projects as its economy shows signs of cooling further, with investment growth slowing to a record low and consumers turning more cautious about spending."
"With its trade war with the United States threatening to pile more pressure on China’s already slowing economy, Beijing on Tuesday reported downbeat economic data, rolled out a $14 billion urban railway plan and pushed local governments to speed up issuance of special bonds for funding infrastructure projects."
https://www.reuters.com/article/us-china-economy-activity/chinas-economy-cools-further-investment-growth-at-record-low-idUSKBN1KZ04Z
The implications of declining investment is that aggregate demand falls (AD = Consumption + Investment (private)+ Government Expenditure (investment) + Net Exports), enabling a lower economic growth rate. The reason why economic growth increases and decreases are important to the commodity market for construction metals and materials, is that increases in economic growth are highly correlated to increases in those commodities. China, in particular has a urgent need to spend on 'infrastructure projects' or otherwise capital goods -goods that are used in producing other goods, rather than being bought by consumers. This is a just fact that China is an emerging economy with a high population, so has greater need to spend on improving infrastructure than the US.
So my analysis continues that by having a trade war, tariffs, subsidies, quotas and other protectionist policies become the main bargaining tool. This puts considerable risk on global economic growth, as naturally trade quantities and values lower due to a greater inefficiency in the production and exportation of goods. As this risk increases, business investment gets put on hold so less construction of new buildings, warehouses, storage facilities etc. This decrease in investment will be multiplied throughout the economy (the multiplier effect) and a perhaps 250B decrease in business investment actually has a 11B to 1.25B actual effect on the economy. The effect on commodity prices is that a trade war decreases demand and supply for exports, which leads to a decrease in economic growth, leads to a decrease in investment, leads to a smaller intention for businesses to expand or do construction, which leads to a huge decrease in demand for building supplies, leads to a decrease in the price of crucial metal and material construction commodity prices. See how it is very important to follow the money trail.
The economics is really important for long to medium commodity trading and prices as economic growth always reflects a demand for raw materials i.e commodities. Strong economists out there may comment to me, " you forgot about the time lag, decreased demand in copper doesn't happen over night". Well, yes but there are two major fundamental factors affecting it. The first one being that the financial markets (all globally traded markets including that pesky bitcoin) always reflect the most recent information as speculators (you and me) are merely hoping to make a profit not actually take delivery of 1000 tonnes of iron ore. Speculators represent the majority of financial market participants, look at FX, only a very small percentage of buyers and sellers are trading currency to settle imports and exports. That's why when economic data comes out or major events unfold (think Brexit and GBPUSD) changes happen within a couple of minutes. The other crucial factor is that lack of trustworthy in the Trump Administration by world leaders in business and commerce don't want to see how 'it plays out'. They will not take such risks, so will be risk averse, putting even more pressure to halt any type of capital expenditure. The market will reflect this sentiment.
TECHNICAL ANALYSIS
This neatly bring me on to my technical analysis. In the chart, I have two securities: Copper (line is copper colour) and NAIL - a leveraged ETF that provides 3X exposure to home construction and supplies businesses operating in the US. I have put these two together as they show a strong price correlation as copper is commonly used in homebuilding industry. As you can see, the inclines, declines, tops and bottoms are quite similar. Copper, after falling from its high, has developed a descending triangle. This is the most significant triangle pattern as it shows a quite a strong bullish outlook. The support line is horizontal, showing that bears have failed to push it lower, and a decline a resistance line also states that the bears are running out of momentum. Also, there is low volume, always a good signal that major move is coming usually but not always bullish. (I think I read it was like 71% success rate of bullish outcomes following a descending triangle, but don't quote me). There are two momentum indicators colour-coded for ease of reference. So Copper Momentum is trading in a bullish price channel indicating that there is a strong bullish sentiment, albeit not yet reflected in the price. It provides some insight to a potential reversal coming.
Also, NAIL ETF has developed a price descending wedge. Given it is descending and following a recent bottom, it points quite strongly to a bullish breakout. Further consolidating this point, is that NAIL momentum indicator is also in a triangle pattern. Triangle patterns can go either way, and it is incredibly hard to determine which way it will break out. All I know definitively, is that following a triangle breakout, the price can trend 1 to 1.618 even 2.618 the vertical height of the triangle, so be ready for a break out.
Also, I have constructed another correlation chart with lumber wood futures and NAIL ETF, it shows a similar representation of the current chart, however there is an almost perfect 5 month time lag. I'm not yet confident on my analysis for that pairing yet but it still provides some insights that can be related to my analysis here. I have linked it at the bottom. Take a look, its very interesting.
Link: https://www.tradingview.com/chart/LSU2018/tXMbZcw8-Commodities-and-Construction-Analysis-linked-to-main-article/
A very important point to consider for NAIL ETF, is that rising interest rates play havoc on mortgages which is an extension of home owner and investment property mortgages. This is also a another variable that will negatively impact the NAIL ETF, however, I am not sure to what extent it manipulates price.
CONCLUSION
Combining all my analysis both fundamental and technical, I can conclude that the commodity market is at a general 12 month low. This is the result of downgraded global economic growth forecasts at the beginning of 2018, a significant equities and cryptocurrency correction as well as the worsening trade war between the world's two biggest and most important economies in the world. As a result, the broader economic situation has put significant selling pressure on commodities, with declines more pronounced in construction metals and materials. This is most likely due to the fact that the demand for capital good spending for both economies has declined given tangible impedances to economic growth for both China and US. The market sentiment has changed quite rapidly since January of 2018. As economists and market analysts have increasingly pointed out, there is a range of serious issues affecting the global economy and it seems to be spiralling out of control.
At this stage, my analysis points out that my long term view(6 to 18 months) is quite bearish, there are no signs of negotiation in the trade war, the equities market has posted its high in January, increasing interest rates, approaching a yield curve inversion - a sign of short term angst and instability (GFC was reported to have a inverted yield curve) and no safety nets such as the global investment and global commodities boom that helped us get past the GFC so quickly. So naturally I have a bearish outlook, unless there is a major change in trade war negotiation or the like, we are poised to slowly reach 2016 commodity price lows.
My short term view is however, slightly bullish, at least for copper. As both securities are showing strong divergence in price and momentum, and both showing bullish chart patterns, I am 70% confident that a short term bullish trend may evolve, however no longer than a month. Also, my view is consolidated by China's recent decision to issue considerable amount of treasury bonds to finance its plans for capital goods and infrastructure. As such, a demand in iron ore, copper, aluminium and lead is feasible, pushing up those prices. However, the extend of the price rise is directly related to the amount of capital expenditure they plan to do. Nevertheless, a short term trend reversal seems probable given all the information available.
That's my analysis, I hope you enjoyed it. I know its long but I spent a lot of time writing it and researching. Please give a like, comment and follow. This is the quality I give.
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