Dr. Copper's delicate condition

As part of the pandemic scenario, commodities hit an important low in March 2020, subsequently beginning a broad and important rally that continued into the following year. Numerous factors contributed to their rise, including strong demand from China, fiscal government consumer support around the world, especially in the United States, and the transition to a green economy. All of this has led experts to think about the possibility of the potential birth of a new commodity supercycle.

Within the basket of commodities, metals, especially those linked to the new carbon neutrality objectives, are playing an important role. The use of green energy in place of the traditional and polluting fossil fuels has already been translated into various action plans, including the shift, to electric mobility. The combustion engine is being replaced by electric motors. And in the field of renewable energy, we also have wind turbines. So there is a need to use some commodities in larger doses than in the past to produce the new engines for a green environment. These are mainly metals such as copper (think electric motor windings), or aluminum, which are becoming "green metals". Platinum and palladium, which are used for catalytic converters in an more important way because of increasingly stringent restrictions in terms of environmental pollution, have also increased. There are many other metals that are involved in this process (think, for example, about lithium or nickel for batteries), but I would like to make a brief analysis on copper, or as the Americans call it friendly, "Dr. Copper". This is because with the beginning of the second half of the year, the situation began to take on a certain complexity, making the linearity of path of the narratives told in in recent months newspapers, a little more articulated than we thought.

Let's start by mentioning that copper has been nicknamed "Dr. Copper" because in the past, trends in the market for this metal have often been a useful indicator of the state of the world economy. In recent years, copper prices may also reflect the influence of China, which consumes nearly half of the world's supply. Recent studies have questioned copper's ability to be a macroeconomic leading indicator, because the world has moved into a new normal that is much more complex to be examined than in the past.

Moving on to a graphical analysis, we can see that the bullish trend of the metal, starting from the pandemic low point of March 2020, is undergoing a correction as of May 2021.

Copper is not only used in electric motors, but also in construction. The slowdown in manufacturing in China, including especially the real estate sector (culminating recently in Evergrande's problems), has contributed to the recent corrective wave on the metal.

In the graph in figure 2 we have in the upper part the MSCI China index, in the central part the price of copper, and in the lower box a correlation index between the two asset classes. We can clearly see that for most of the time the correlation is positive: when the Chinese stock market does well, copper also goes up. In the last period instead copper has performed better than the Chinese market, bringing the correlation into the negative zone (point 1), and keeping itself, as opposed to the Chinese index, above its 12 month moving average (see green and red arrows). Now the correlation indicator is rising: China and copper could therefore move in the coming weeks in a more correlated way. If the Chinese index, given its deep fall, is able to recover in the coming period, it is reasonable that copper could also benefit.

Evaluating the copper price curve on a monthly candlestick chart, we can see that the price has experienced a fairly compound correction (Figure 3). Prices have been laying on the 12-month moving average which is acting as support. The forming candle has a higher low than the previous one; the MACD is still positive, although it is slowing down. The technical setup is therefore benign. If prices stay around the moving average, at the August low and the 38.2% level holds, it is reasonable to think about a continuation of the trend, otherwise we run the risk of falling even to the 61.8% level, the breaking point of the bearish trendline.

In summary, Copper is located in a support area that also constitutes an interesting accumulation zone, but with very tight stop losses, as we know that part of its fate is linked to the events of the Chinese financial market. The correlation with the latter in recent months has been lacking, but is beginning, following the correlation indicator, to potentially return to normal.

Therefore, a certain amount of attention will be required in the coming period: if on the one hand we have a strong catalyst at a global level, such as the achievement of carbon neutrality, on the other hand we have uncertainty factors, which often require us to re-evaluate the entire analysis process in order to have forecasts that remain reliable.

About the author

Mario Valentino Guffanti is a board member and Head of the Lugano Chapter. He is a financial advisor, technical analyst and researcher based in Milan, Italy. As an author of technical articles and lecturer as well as instructor in technical analysis courses in Switzerland, he is also dedicated to financial coaching through NLP techniques (neuro-linguistic programming).