Earlier this week we discussed China’s unfolding credit crisis and how this is likely just the first inning of a long and drawn out fall from grace as its growth continues to slow.
In reality, China’s equity markets have been in decline since late 2009, falling 40% in four years, but the fundamentals are just now catching up to such a trend.
It is likely we will hear a lot more negative news out of China the next few months/years before all is said and done as the markets continue their deterioration.
One reason we think this trend will continue is because certain key commodities are warning us of such things.
The World’s Barometer
Commodity prices typically are a leading indicator of the world’s supply and demand picture. Their price movements often occur before bonds and equities. Therefore paying attention to what commodity prices are doing can help us stay ahead of the trends in equities.
One commodity that is greatly associated with the global growth story is copper, so much so it is known as “Dr. Copper” because of its use in almost everything growth related and its ability to warn of a relatively healthy or sick global environment.
Copper is used as an electrical conductor, with nearly half of all copper used in this sort of way. Other industries that use copper include the auto (NYSE:F), housing (NYSEARCA:XHB), and brass industries. Copper touches most industries in some way, so if demand for copper (NYSE:FCX) starts to slide, it is a warning that the global growth picture is slowing.
Looking over the Edge of the Cliff
This week alone the price for copper has fallen 8% as it now tests a very key price level of $3. This is the price that has kept copper in a sideways trend for four years, but more recently it is the level that brought in buyers last summer.
The first chart below shows that since April copper has been trending sideways to up, until this week that is.
Zooming out to the longer term shows just how important this $3 level is.
A lasting breakdown of this level would suggest increased risk of a similar swift decline as occurred in 2008, the last time copper broke down definitively below the $3 level.
The chart below displays just how much is at stake as a move below the $3 spot level would confirm all buyers of copper (and the global recovery) the last four years bought too high and may be sitting on large losses, looking to salvage what is left.
It is likely many buyers of copper also see this important support price and have their stops set just below $3. A break through this price thus could fuel a rush for the exits and a waterfall decline.
A similar setup occurred in the precious metals (NYSEARCA:AGQ) last April as we discussed in our July 2013 article, “Is gold blowing another kiss of death”. Gold prices had a similar line in the sand at $1530; once that price failed, it brought in a waterfall of sellers, sending gold prices down to under $1200.
The chart above shows what such an event could look like as copper sold off over 50% in just three months back in 2008 as the world slowed down and copper speculators rushed for the exits. Individual companies fared even worse as companies such as Rio Tinto (NYSE:RIO) and BHP Billiton (NYSE:BHP) fell over 70% in under a year.
If copper has another such selloff, it would no doubt rattle the markets as well as warn bonds and equities all is not well with the macro fundamental environment.
After all, if Dr. Copper is sick, it is highly likely many industries soon too will be catching a cold as demand for necessary input commodities dries up.
The ETF Profit Strategy Newsletter follows the major asset classes to stay ahead of global macro trends. Right now copper is testing a very important support price. A decline below $3 would be a big warning sign that the world’s economy is slowing much faster than most are expecting.