Copper, a leading indicator of global equity market direction, is flirting with the Chinese wall of support — the 200-day moving average. The average is regarded as the wall of China by long-term investors, a breach of which indicates switch in market bias.
The wall of China analogy seems very appropriate. It is well known the rise in copper prices was due to strong demand and hoarding in China. As China began tightening its monetary policy, demand began to ease in the country, leading to a steady fall in prices. The decline since February 2011 has now taken copper prices to its 200-day moving average, which essentially is the Chinese wall of support for the metal.
When prices are above the 200-day average and retreat down to it, the average acts as support. On the other hand, if prices are below the average and prices rise up to it, the average acts are resistance.
Prices often bounce from support and fall from resistance.
Over the last two weeks the price of copper has moved above and below the 200-day moving average. This indicates the bulls and bears are fighting each other to prevent the market from moving against them. A close below the 200-day average gives a bearish bias to copper and if prices are unable to stay below the average the signal is that the bulls are winning.
For a confirmation of the bearish bias the moving average line should be sloping down and prices should be below it. Right now prices are moving above and below the average, but the average is sloping up. This means the bearish bias has not been confirmed. We believe copper must close below $3.60 on Chicago Mercantile Exchange traded copper futures contract (Symbol @HG). At the time of writing this article copper was trading at $3.97. One contract controls 25,000 pounds.
IMPORTANCE OF COPPER
Copper is a leading indicator of what the stock market will do. In late December 2008, copper bottomed and began to consolidate, by moving sideways. The markets continued down, but copper was giving a signal that the equity markets would turn soon. In early March 2009, copper broke out of consolidation range and began a rally. It was then that the stock market bottomed and began to follow copper up.
There is a fundamental reason for the importance of copper’s price action. The metal is used in several manufacturing processes and an increase in the demand for copper indicates the economy is gathering steam. There is lag between the purchase of copper by a manufacturer to completion of the product, its sale and revenue realisation. Increased revenue realisation by companies result in a rise in the equity prices. Hence, we see copper prices leading the equity markets.
Right now bears in the equity and copper market should tread cautiously. If the 200-day moving average acts as support and copper rallies, the sell-off in the equity markets is likely to end soon. On the other hand if copper continues on its way down, it’s likely that the equity markets will follow. Watch out for the copper futures contract to close below $3.60 for continuation of the bearish trend.
The author is based in Chicago and is the editor of www.capturetrends.com
