Three ways to trade a changing China
Metals industry should look to the country’s longer-term needs
Tom Price
China’s new-build period is giving way to the less commodity-intense phase of replacement © AP
The world’s metal producers, traders and market commentators arrive in London this week for a big annual gathering. We expect the debate to focus on how to position for a full US-China trade deal, or expanded fiscal stimulus in China.
But this is all just short-term noise.
Investors should be considering the longer-term growth risks to commodities from changes in the world’s second-largest economy. Any evidence of a slowing rate of consumption in China is critical to the outlook for global commodity prices. Investors in metals and rocks need new strategies to better handle this transition.
Simply put, China is running out of big things to build. Key commodity-consuming sectors such as property and infrastructure — which have seen massive-scale construction activity over several decades, from a very low base — are now in a mature stage of development. China’s new-build period is giving way to the less commodity-intense phase of replacement.
Current global commodities consumption is, we estimate, no more than 60 per cent of what it was during the China-backed growth surge of the early 2000s, and no more than 80 per cent of its level during the modest global economic recovery in the early part of this decade.
In fact, the current consumption rate resembles that of the 1990s — a decade featuring the US and Japan as the big commodity consumers, long before China’s massive-scale growth cycle occurred.
Here are three strategies that investors could use to trade this longer-term trend.
First, choose base metals over steel. History shows that when major economies (particularly Japan, Germany and the US) peaked in terms of their commodity consumption, steel usage enters a multiyear trend decline, while that of base metals holds up.
This is because there is little to replace the steel demand for massive-scale national infrastructure investment. Base metals, on the other hand, see declining industrial demand offset by growth in short lifecycle consumer goods such as cars, machinery and appliances.
Second, take advantage of growing complexity in China’s industry. As longstanding growth in the country’s materials-intensive industrial and manufacturing sectors naturally slows, it will be incrementally replaced by domestic consumption and trade.
This will mean a decline in the intensity of steel use and the rise of demand for more complex commodities such as mineral sands and pigments used in paint, plastics and paper; ferroalloys added to steel; and inputs for chemicals production.
Third, buy what China lacks. While its growth rate for total commodities may moderate over the longer term, there are selected commodities whose total supply in China are largely met by imports. For example, more than 50 per cent of China’s supply of iron ore, copper, nickel and bauxite are imported — making these commodities less sensitive to domestic economic drivers such as currency weakness and trade conflict. By the same token, avoid those commodities in which the country is naturally “long”: aluminium, coal and steel.
There is other evidence of China’s ageing materials-intensive growth story. Back in the 2000s, when its commodity “super cycle” peaked, its engagement with the commodity market was characterised by massive seasonal swings in its vast trade flows and inventory levels, for metals and ores.
Now, 10-15 years on, the country’s trade seasonality is really quite modest and its inventory cycles are still shrinking. Supply options are being carefully diversified and consumption managed to cap costs. This is the behaviour of a mature economy, not a commodity-short juggernaut.
China’s central government is acutely aware of the risks that such transition poses to its overall growth policy. For years, faltering economic activity could be quickly resolved with a credit injection or new project. But now that the country’s capital base is thoroughly built out, such a strategy is increasingly impotent.
Even the consumption rate of copper — the flagship of the base metals — is waning after 25 years of annual growth above 3 per cent. Some investors are convinced that copper’s current subdued price simply reflects a speculative exodus on the back of the US-China trade conflict.
They have their heads in the sand. China-related copper demand growth has slowed over several years, well before this trade dispute arose. Again, this reflects a maturing economy.
But looking at annual demand growth rates shows only part of the story. The evolutionary path of each commodity’s intensity of use, judged by each country’s consumption per capita, is far more revealing. For copper, we see that after years of very strong demand growth, since the late 1990s, China’s intensity of copper use now looks much more like other mature economies.
Yes, metal producers and traders attending the London Metal Exchange’s gatherings this week will talk about the promise of price upside on any global trade deal or even an old-fashioned economic growth recovery. But beyond a price bounce, the commodity outlook is less clear.
That is because the appetite of the world’s largest consumer is changing fast. And only the savvy investors are ready for China’s switch.
In Part I of this research post, we highlight how the ES and Gold reacted 24+ months prior to the 2007-08 market peak and subsequent collapse in 2008-09.
The point we were trying to push out to our followers was that the current US stock market indexes are acting in a very similar formation within a very mature uptrend cycle.
We ended Part I with this chart, below, comparing 2006-08 with 2018-19.
Our intent was to highlight the new price high similarities as well as the price rotation similarities between the two critical peaks in market price.
We are terming the current market a “Zombie-land” because it appears global investors are somewhat brain-dead as to the total risks that are setting up in the global markets right now.
But, wait before you continue reading make sure to opt-in to our free market trend signals newsletter.
Forward guidance is waning. Earning expectations are decreasing.
Debt levels are skyrocketing all over the planet.
Global banks are continuing to move into more Quantitative Easing measures to attempt to spark growth.
The equity markets are 9+ years into a rally while the global central banks are 10+ years into some form of continued QE efforts.
Global economic data suggests a moderate downturn in economic activity and growth for many foreign nations.
We believe the next crisis will not originate in the US, but from outside the US.
We believe the risks associated with the massive debt levels in the foreign markets will be the reason for another price decline.
Quite possibly, a commodity price collapse (think OIL) will become the catalyst for this event.
If Oil were to fall below $45…
If Oil were to fall below $45 (eventually possibly flirting with the $30 price level) as our predictive modeling suggests, then we believe many foreign nations will suddenly become serious risk factor related to debt/credit and could potentially create a domino-process where the US/Global markets collapse on this new risk factor.
Our last predictive model signal was for natural gas and we just close out the trade locking in 19% profits this week.
But what if this is 2007 setting up all over again?
Take a look at the ES chart above – where a peak setup in May/June 2007, followed by a deep price correction.
Follow that price move even further to see how price rallied to a new all-time high throughout July, August and most of September before setting up in a deeper price rotation in late September and carrying forward into October.
Now, take a look at this current ES Weekly chart to see if there is any similarity between them.
Gold up 50% From Its Lows Already
Gold has already rallied nearly 49% from the 2015 lows and the recent price rotation is somewhat similar to what happened to Gold in 2006-2007.
The extended base that set up between 2017 and 2018 could be interpreted as a similar type of base that set up in 2006-07.
The current rally is somewhat similar to what happened in late 2007 and early 2008 when the US stock market began to collapse volatility expanded in a strong uptrend which was followed by a moderate price retracement before Gold began a rally totaling more than 250% from the base/bottom.
Is this setup happening again right now?
This Weekly NQ chart shows the extended melt-up that is taking place after the October to December deep price rotation that took place in 2018.
We believe this deep price rotation is similar to the deep price rotation that happened between July and September 2007.
The subsequent “melt-up” process is a function of the “zombie-land” function of price and bias.
Investors chase after security and returns by pushing the price higher and higher when fundamentals and expectations don’t align with these expectations.
This same type of “zombie-land melt-up” happened in 2007 as well.
We understand the implications of this research post and want to warn all of our followers they need to be extremely cautious of the current market setup.
Even though the US stock market may continue an upside bias within a melt-up process, we believe there are very strong underlying risks in the markets that could prompt a very deep price correction.
The US Fed is not lowering rates because of market strength and super strong forward guidance.
They are lowering rates because they believe risks exist in the debt/credit market and are trying to stay ahead of a big problem – a potentially very big problem.
The overnight REPO market has been a topic for our researchers for the past 45+ days as this temporary institutional debt tool has exploded recently.
Now, the US Fed has actively decreased rates and has begun acquiring more debt on its balance sheet.. hmm.
That seems strangely similar to another credit/debt crisis event.
(source: https://thesoundingline.com/october-saw-the-largest-increase-in-feds-balance-sheet-since-the-financial-crisis/)
We know many of our followers may consider this just another warning from a bunch of doom-sayers again.
We’re not wishing for this outcome – trust us.
We simply look at the technical data, determine a probable outcome and present our findings to our followers to try to keep them informed.
Too many similarities are starting to align to make this just some strange coincidence.
Too many unknowns and uncertainties are aligning just 12 months before a US presidential election cycle.
It seems strangely familiar to us that these same types of price events are unfolding now.
If there is no correlation then we’ll likely be incorrect in our analysis.
But if we are right and there is a major price reversion event setting up, we think it is wise to alert as many of our friends as possible.
Keep reading our research because our proprietary tools have been nailing all of these price targets and move many months in advance.
The point we were trying to push out to our followers was that the current US stock market indexes are acting in a very similar formation within a very mature uptrend cycle.
We ended Part I with this chart, below, comparing 2006-08 with 2018-19.
Our intent was to highlight the new price high similarities as well as the price rotation similarities between the two critical peaks in market price.
We are terming the current market a “Zombie-land” because it appears global investors are somewhat brain-dead as to the total risks that are setting up in the global markets right now.
But, wait before you continue reading make sure to opt-in to our free market trend signals newsletter.
Forward guidance is waning. Earning expectations are decreasing.
Debt levels are skyrocketing all over the planet.
Global banks are continuing to move into more Quantitative Easing measures to attempt to spark growth.
The equity markets are 9+ years into a rally while the global central banks are 10+ years into some form of continued QE efforts.
Global economic data suggests a moderate downturn in economic activity and growth for many foreign nations.
We believe the next crisis will not originate in the US, but from outside the US.
We believe the risks associated with the massive debt levels in the foreign markets will be the reason for another price decline.
Quite possibly, a commodity price collapse (think OIL) will become the catalyst for this event.
If Oil were to fall below $45…
If Oil were to fall below $45 (eventually possibly flirting with the $30 price level) as our predictive modeling suggests, then we believe many foreign nations will suddenly become serious risk factor related to debt/credit and could potentially create a domino-process where the US/Global markets collapse on this new risk factor.
Our last predictive model signal was for natural gas and we just close out the trade locking in 19% profits this week.
Is 2007 setting up all over again?
But what if this is 2007 setting up all over again?
Take a look at the ES chart above – where a peak setup in May/June 2007, followed by a deep price correction.
Follow that price move even further to see how price rallied to a new all-time high throughout July, August and most of September before setting up in a deeper price rotation in late September and carrying forward into October.
Now, take a look at this current ES Weekly chart to see if there is any similarity between them.
Gold up 50% From Its Lows Already
Gold has already rallied nearly 49% from the 2015 lows and the recent price rotation is somewhat similar to what happened to Gold in 2006-2007.
The extended base that set up between 2017 and 2018 could be interpreted as a similar type of base that set up in 2006-07.
The current rally is somewhat similar to what happened in late 2007 and early 2008 when the US stock market began to collapse volatility expanded in a strong uptrend which was followed by a moderate price retracement before Gold began a rally totaling more than 250% from the base/bottom.
Is this setup happening again right now?
Weekly NQ chart shows the extended melt-up
This Weekly NQ chart shows the extended melt-up that is taking place after the October to December deep price rotation that took place in 2018.
We believe this deep price rotation is similar to the deep price rotation that happened between July and September 2007.
The subsequent “melt-up” process is a function of the “zombie-land” function of price and bias.
Investors chase after security and returns by pushing the price higher and higher when fundamentals and expectations don’t align with these expectations.
This same type of “zombie-land melt-up” happened in 2007 as well.
We understand the implications of this research post and want to warn all of our followers they need to be extremely cautious of the current market setup.
Even though the US stock market may continue an upside bias within a melt-up process, we believe there are very strong underlying risks in the markets that could prompt a very deep price correction.
The US Fed is not lowering rates because …
The US Fed is not lowering rates because of market strength and super strong forward guidance.
They are lowering rates because they believe risks exist in the debt/credit market and are trying to stay ahead of a big problem – a potentially very big problem.
The overnight REPO market has been a topic for our researchers for the past 45+ days as this temporary institutional debt tool has exploded recently.
Now, the US Fed has actively decreased rates and has begun acquiring more debt on its balance sheet.. hmm.
That seems strangely similar to another credit/debt crisis event.
(source: https://thesoundingline.com/october-saw-the-largest-increase-in-feds-balance-sheet-since-the-financial-crisis/)
We know many of our followers may consider this just another warning from a bunch of doom-sayers again.
We’re not wishing for this outcome – trust us.
We simply look at the technical data, determine a probable outcome and present our findings to our followers to try to keep them informed.
Too many similarities are starting to align to make this just some strange coincidence.
Too many unknowns and uncertainties are aligning just 12 months before a US presidential election cycle.
It seems strangely familiar to us that these same types of price events are unfolding now.
If there is no correlation then we’ll likely be incorrect in our analysis.
But if we are right and there is a major price reversion event setting up, we think it is wise to alert as many of our friends as possible.
Keep reading our research because our proprietary tools have been nailing all of these price targets and move many months in advance.
