Commodities Reach Important Breakout Points, Part II

• The Gold/CRB Ratio as a Commodity Indicator
• Close Correlation between Canadian/Australian Dollars and Commodities
• The Stock Market Votes for Commodities
• Short-Term Breakout Underway?

The Gold/CRB Ratio as a Commodity Indicator

A couple of weeks ago, I wrote an article on commodities suggesting that conditions were falling into place for a rally. One of the pieces of evidence I used was the Gold/CRB Composite ratio, as displayed in Chart 1. It rests on the assumption that the gold price discounts future commodity inflation. From a practical point of view, when the ratio reverses to the downside, that's usually bullish for commodities. Occasionally, it's possible to identify such situations by observing a peak in the ratio's 45-day ROC. Previous examples have been flagged with the vertical lines.

Two failures using this approach developed in 1980 and 2015, which have been flagged by the dashed line. At the time of my previous commodity article, it looked as if the ratio had tentatively peaked. In the intervening period, though, that topping action has been much more decisive, as the ROC has slipped below its overbought solid horizontal line all the way back to equilibrium. That strongly suggests that gold has experienced an intermediate peak against commodities, which should be bullish for the latter in its own right. Since it's a relative relationship, it does not necessarily follow that the gold price itself will decline, merely that it is likely to underperform commodities.

Close Correlation between Canadian/Australian Dollars and Commodities

Finally, we know that commodities generally move in the opposite direction to the dollar, though this is certainly not always the case, as Chart 2 demonstrates. However, two resource-sensitive currencies, the Canadian and Australian dollars, do. It's not a perfect relationship, but it's certainly a closer one than the Dollar Index itself.

The Canadian is shown in Chart 3, together with the CRB Composite. I use KST buy signals from the dollar to signal buying opportunities in the CRB itself. At present, the currency is bearish because it is below its 2013-2020 down trendline, and the long-term KST is slightly below its 9-month MA. However, what is clear is the fact that it would not take much in the form of strength to reverse either of these conditions.

Chart 4 reverts to the Aussie dollar, where the situation is slightly more positive, but with a caveat. The positive part comes from the fact that the KST at -95 is slightly above its MA at -97. The caveat comes from the anemic nature of the crossover, but, more importantly, this is a monthly chart. Since we are barely into the month of June, a lot of trading days lie ahead. Even so, it is pretty clear that the currency is very close to triggering a bullish signal for both itself and dollar-based commodities.

The Stock Market Votes for Commodities

If commodities are to experience a rally, this should be reflected in the stock market. In this respect, Chart 5 compares my Inflation Group Index to the NYSE Oil Index ($XOI). This index combines several S&P earnings and commodity-sensitive groups into one macro series and is plotted in the center window of the chart. The arrows flag periods when the long-term KST for the Inflation Index bottoms out. The vast majority are solid because they indicate successful signals, which were followed by a rally in the $XOI. The solitary (dashed) loser developed in 2002 and was only followed by a small rally. I am featuring it today because the KST has just gone bullish, so, according to this one piece of evidence, the time should be right for owning components of the $XOI.

Chart 6 shows a similar arrangement, this time featuring  the Dow Jones Mining Index ($DJUSMG). Once again, we see a fairly consistent set of buy signals as triggered by the KST for the Inflation Group Index. I used the $DJUSMG because of its extensive 25-year historical perspective. However, a more practical vehicle is the SPDR Metal and Mining ETF (XME).

Its history for is more limited, but Chart 7 demonstrates that it too responds well to KST buy signals from the Inflation Index.

Short-Term Breakout Underway?

Our final chart looks at the recent action of the DB Commodity ETF (DBC). Here, you can see that the commodity 50-day net new high ratio has broken above the equilibrium level and the green resistance trendline, thereby confirming Tuesday's upside breakout by the price itself. The one thing I do not like about recent price action is the fact that it has left a gap, below current prices, at the right arrow. Since gaps are usually filled, that throws up a small potential problem. On the other hand, two gaps were created by on the way down, which have been flagged by the two green arrows. They are wider and, therefore, more important. Since they formed above current prices, that's a positive factor.

Lots of indicators are falling into a positive mode for a commodity price move of at least intermediate-term magnitude. What's needed is a little push. Perhaps Tuesday's breakout will be enough?

Good luck and good charting,

Martin J. Pring

The views expressed in this article are those of the author and do not necessarily reflect the position or opinion of Pring Turner Capital Groupof Walnut Creek or its affiliates.