RISING BALTIC DRY INDEX REFLECTS INCREASE IN CHINESE DEMAND FOR NATURAL RESOURCES -- STEEL LEADERS INCLUDE AKSTEEL, NUCOR AND STEEL DYMANICS -- FREEPORT MCMORAN COPPER & GOLD JUMPS ON HOPES FOR MORE COPPER DEMAND
SHIPPING RATES SOAR AS CHINA BUYS MORE ORE... This headline is from today's Wall Street Journal (by Costas Paris and Francesa Freeman, p.C1). I'm writing about it today because it fits into comments made in my last market message about how a rising Chinese stock market is giving a boost to material stocks, which include steel. The article starts with the statement that "A sudden surge in China's demand for iron ore has helped push global shipping freight rates to their highest level in more than 18 months, raising hopes that a recent downturn in some commodity prices is nearing an end". Chart 1 shows the Baltic Dry Index ($BDI) surging to the highest level since the start of 2012. It has also broken a downtrend line extrending back to mid-2010. The BDI tracks rates for ships carrying dry-bulk commodities like coal, iron ore, and grain. As the article goes on to point out, the BDI reflects global demand for raw materials, and is also considered a leading indicator of global economic growth. The steel industry is especially sensitive to trends in the BDI because of the need to ship iron ore by sea from places like Brazil and Australia. Iron ore is used to make steel. That helps explain the recent upturn in steel stocks. Stocks tied to copper are also starting to rally.
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Chart 1
CLOSE CORRELATIONS EXISTS BETWEEN STEEL STOCKS AND CHINA... Tuesday's message showed the upturn in Chinese stocks and an ETF tied to steel stocks. As you've probably guessed by now, those two upturns are related. Chart 2 shows the close correlation between China iShares (red line) and the Market Vectors Steel ETF (black line) since the start of 2012. The 60-day Correlation Coefficient (below chart) shows an extremely high correlation of .96 between the two markets. Notice that the rally in the FXI this month to the highest level in more than a year has coincided with an upturn in steel stocks. That's not a coincidence.
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Chart 2
SOME STEEL BREAKOUTS... Within a strong materials sector, the two strongest industry groups for the week have been steel and nonferrous metals. One of the biggest percentage steel gainers is AKSteel (ADX). Chart 3 shows the stock breaking out of basing formation (and exceeding its 200-day average) to reach the highest level in six months. Expanding volume confirms the strong price action. Its relative strength line (below chart) has also turned up. The weekly bars in Chart 4 show Nucor (NUE) having already exceeded its 2009/2011 highs and nearing the highest level in four years. Its relative strength ratio (gray area) is just starting to turn up after underperforming during the first half of the year. Chart 5 shows Steel Dynamics (STLD) having broken out to the highest level in two years. Its relative strength ratio (gray area) has turned up as well. All three stocks should continue to benefit from increased demand from China.
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Chart 3
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Chart 4
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Chart 5
FREEPORT MCMORAN COPPER & GOLD TURNS UP ... Since copper is also a barometer of global strength, it stands to benefit from increasing global demand -- especially from China. We're starting to see that increased demand in common stocks tied to copper. Chart 6 shows Freeport McMoran Copper & Gold (FCX) climbing to a new seven-month high this week, and clearing its 200-day line in the process. Its relative strength ratio (dashed line) has turned up as well. Despite its name, FCX is primarily a copper stock. The weekly bars in Chart 7 show that FCX has been a weak performer over the last two years. The copper stock has been in a downtrend since the start of 2011. After testing chart support near 26 for the third time since 2010 (see circles), the stock has just completed a small "double bottom" pattern and is starting to recover. Notice how closely FCX has tracked Chinese stocks (above chart) over the last three years. They peaked together at the start of 2011 (down arrows), and have turned up together this summer (up arrows). Interestingly, the 50-week correlation coefficient (below chart) has started to turn back up again after weakening earlier in the year (up arrow). That stronger correlation between the two markets suggests that FCX should started benefiting from the resurgence in Chinese stocks. That also suggests higher copper prices.
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Chart 6
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Chart 7
RISING BALTIC DRY INDEX SUPPORTS HIGHER BOND YIELDS... I've been trying to build a case in recent messages that the recent upturn in global bond yields (led by the U.S.) is supported by signs of economic growth. That's a good thing. Chart 8 is designed to make the same point by comparing the trend of the Baltic Dry Index (black line) to the 10-Year T-Note Yield (green area) since 2007. Falling bond yields since 2007 were symptomatic of global economic weakness. The falling BDI also implied economic weakness. During 2013, however, both measures have turned up. The Baltic Dry Index has broken a resistance line extending back to mid-2008. As explained in paragraph one, that reflects increased demand for natural resources, particularly from China, which is the world's biggest importer of commodities. A rising BDI also reflects a stronger global economy. A stronger global economy supports higher bond yields. With all the focus on whether or not (or how much) the Fed will start tapering its bond buying program, it's important to recognize that the ultmate driver of higher bond yields will be global economic growth. From an asset allocation standpoint, that's good for stocks and bad for bonds. Rising basic material shares also hint at a stronger climate in economically-sensitive commodity markets (with the exception of gold which doesn't benefit from rising bond yields and a stronger stock market).
