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Commodities, BHP & RIO – where to?

When conducting analysis to determine where resource stocks may be heading in the near to intermediate future, one of the main charts, amongst others, that I consult is the Continuous Commodity Index ($CCI).

The CCI is a benchmark of performance for commodities prices. It is an equally weighted index using 17 commodity futures prices. Each commodity represents 5.88% of the index. Its equal weighting makes it my preference over the CRB Index or the GSCI for analysing commodity price trends.

Chart reproduced with permission from Beyond Charts

The above weekly chart of the CCI provides three important insights into commodities price action over the last 3 -4 years:

  1. There is a very strong support zone between 498 and 508, as shown by the blue rectangle on the CCI chart.
  2. A potential projection zone exists between 595 and 605.
  3. A long term descending triangle has formed since September 2010.

The support zone is substantiated by two strong technical analyses. Firstly, the support zone was a resistance zone back in 2009/2010 (and earlier) and a support zone on three occasions since June 2012, as shown by the blue rectangle.

Secondly, the support zone coincides with the 50% retracement level of the commodities bull market that ran from December 2008 to April 2011, as indicated on the above CCI chart by the magenta ellipse on the lower left. This makes a case that support for commodity prices will once again hold at these levels meaning that commodities prices could potentially have another attempt at rising from these current levels.

Of course, there are no guarantees. If this support zone doesn’t hold then expect commodity prices to fall further thereby greatly reducing the chances of rising resources stock prices in Australia and around the world.

Technically, to support a bearish case for commodity prices, a 14 month descending triangle has formed since September 2012 with lower highs occurring over this period in a declining channel demarcated by the black trend lines. One might argue that the lower highs started from April 2011, over two and half years ago. The descending triangle is nearing its apex formed by the declining upper black trend line and the blue horizontal support zone.

The forming apex means that prices are getting ‘cornered’ which so often leads to a breakout one way or the other very close to the apex, probably in the next 3 – 4 weeks.

If a breakout occurs on the upside then the first target would be around the 550 level in the CCI and then the 595 – 605 zone, shown by the upper magenta ellipse. The index would only rise if commodity prices rose which would undoubtedly lead to rising resource stock prices.

If a breakout to the downside occurs then expect a fall in the CCI down to the 450 – 465 zone and a corresponding fall in resource stock prices.

The second chart below shows the relationship between both BHP (blue) and RIO (green) to the Continuous Commodities Index ($CCI). All three charts are ‘based’ at 12 January 2007 showing the relative relationship between BHP, RIO and the CCI since then. Note the high correlation in direction of BHP & RIO to the direction of the CCI.

Since July this year, both BHP and RIO have rallied despite commodity prices not rising. This divergence is clearly seen on the extreme right of the chart below.

Chart reproduced with permission from Beyond Charts

The story, two and a half years in the making, is building to a climax that I believe will be resolved this side of Christmas. The battle lines are drawn for the descending triangle of the 50% retracement zone which has become a very strong support area for the CCI.

Either commodity prices will rally from the CCI support zone thereby justifying the early runs by BHP and RIO over the last 4 months and leading to a rally in resource stocks. This might be the impetus needed by the small to mid cap resource stocks in Australia to also rally.

Or the descending triangle will hold sway and commodity prices will fall taking BHP, RIO and many other resource stocks to lower prices.

Let’s watch with interest as the climax to this technical battle approaches….


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