March 8, 2010

Precious Versus Industrial Metals

(Click to enlarge the graphic).

Metals continue to garner attention as traders look for signs of inflation - but is Gold the best performer of 2010?

The four daily bar charts above plot Gold (top left), Silver (bottom left), Copper (top right) and Nickel (bottom right). The instruments used are the iShares COMEX Gold Trust ETF (symbol IAU), iShares Silver Trust ETF (symbol SLV), iPath Dow Jones-UBS Copper Subindex Total Return ETN (symbol JJC), and Dow Jones-UBS Nickel Subindex Total Return ETN (symbol JJN). A Parabolic SAR (blue dots), 200 period moving average (blue line), and red dashed vertical lines depicting quarterly performance intervals is plotted on each chart. Additionally, a red dashed horizontal line denotes recent highs from the last three quarters for each instrument, and a solid red trend line is offered.

Parabolic SAR represents a strong ally to technicians from a multitude of perspectives. While techniques can vary, the tool itself is useful for determining short-term momentum of a specific asset. Generally accepted practice is to enter any long position when current price action "cuts through" a previous sell stop (dots above the price action turn to dots below the price action), and to close that position when price reverses again, waiting for the next long signal. This entire exchange presumes a long bias, offered by the price action itself being above the 200 period moving average.

Using this approach, technicians would have captured portions the bullish moves above, but would certainly have been frustrated at times. One weakness of the Parabolic SAR strategy is that, absent any clear and sustainable momentum, traders can be "chopped" in correcting markets. Such has been the case during certain periods of 2009. Following a big move in both precious and industrial metals, these markets took a breather and consolidated for several weeks. As the correction has matured, volatility (an in turn, momentum) has found favorites. Indeed, not al metals have behaved in total unison.

Let us first consider the precious metals sector. After peaking in Dec 09, Gold has corrected somewhat aggressively at first before chopping for most of Jan 10 - Feb 10. Its current price action is still well above the highs preceding the Dec 10 top, and is perhaps now moving out with strength having broken the down trend established off the high itself. The first long signal provided by Parabolic SAR in Jan 10 met resistance fairly quickly, its swing high near 113 in IAU forming the first in a series of pivot highs forming the downtrend. Alternatively, Silver has formed a less convincing series of signals - albeit it with strong thrusts - over the same time period. Accordingly, it appears both the more volatile and less resilient of the two metals.

Turning to industrial metals, however, tells a much stronger story. Copper's rise has been both precipitous and at times leading relative to the precious metals sector. Specifically, while Gold and Silver corrected into a chop from Jun 10 - Aug 10, Copper broke out with considerable strength. The Parabolic SAR signals to the long side caught the move going into its own correction from Aug 10 - Oct 10. Following its corrective period, Copper in fact set a new high on the back of that strength before an aggressive correction in Feb 10. Not quite to its recent high, it is close and has broken the downtrend with momentum.

The outlier, and perhaps big surprise, is the performance of Nickel. The surge of Aug 10 outpaced every metal on the chart; in turn, its correction was much more aggressive, lastly almost six months. The surprise, however, comes from the breakout to new highs. While not taking out the former highs in the metal itself (pricing off the chart to the left), the recent burst in Nickel commands attention. Breaking both its downtrend and line, as well as its recent high, Nickel is outpacing every other metal.

Going forward, technicians must broaden their horizons to look beyond traditional cues. No matter one's view of inflation going forward, the simple fact - backed up by technical analysis - is that industrial metals are outperforming precious metals in the short term. To wit, strength in the US Dollar has decoupled from each of these metals at varying degrees. Both Copper and Nickel have their independent uses (construction and technology for Copper, rechargeable batteries an stainless steel for Nickel) and back up their ongoing outpacing of the precious metals sector. In short, these material plays appear more tied to demand, and should be viewed through lenses other than inflation. Momentum tools such as Parabolic SAR serve that goal.

Jeffery E. Lay, CMT
President
Talon Eight, LLC

Disclaimer: This post is intended solely to disseminate information, and is not, and shall not be construed to constitute financial, investment or other similar advice. All posted material should be independently verified for accuracy and current applicability. Readers of this post are referred to the Risk Disclosure for further information.

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