This week, China’s National Development and Reform Commission (NDRC) announced a series of measures to cool the red-hot metals markets.
The NDRC said regulators would strengthen the joint supervision of commodity futures and the spot market and that there would be ‘‘zero tolerance’’ for illegal activities.
It would increase market supervision with inspections and investigations of abnormal transactions. The Commission will also crack down on domestic traders and firms involved in speculation, collusion or hoarding of commodities.
This policy is directed towards the iron ore, steel, copper and aluminium sectors with industry leaders called-in for discussions on May 23.
Some observers believe this is directed mainly at the operation of the futures market and that it has no real impact on the underlying demand.
This is true to some extent, but it also signals the NDRC’s increasing concern about the inflationary impact of commodity prices and the impact on China’s economic recovery.
There are two areas of concern to investors and traders.
The first is the impact on iron ore, copper and other hard metal miners. Many investors have taken positions in iron ore producers like Fortescue Metals in Australia and copper miners like Escondida in Chile.
Whilst China cannot as such directly manage prices, it can cool demand and suspend or restrict imports.
The flow-through impact on company share prices is often sudden and quite substantial. Some investors are reducing the exposure to this area and taking profits off the table. Investment in resources projects where the off-take profitability is entirely dependent upon the recent high commodity prices and exports to China are being re-examined.
These marginal producers have resumed production in recent months, hoping to catch the slipstream of the commodity boom. Investment in these areas has moved towards the speculative end of the investment spectrum.
The second area of concern is perhaps not quite so immediate, but more a precursor to future areas of concern. Although these measures are currently aimed at hard commodities, this is also a warning to those working with soft commodities including grain, soy, pork and beef.
Investors are rarely concerned with the futures market, but their exposure to the agriculture suppliers to these markets is often substantial.
Agribusiness is a profitable field for investment even though it is subject to significant swings based on seasonal conditions.
A construction of the Chinese appetite for commodity imports through price management or source substitution, is a significant risk for agri-business investments.
Australia, in particular, has seen this risk with China tariffs levelled against a range of Australian agricultural products and the subsequent smashing of the value of agricultural investments.
Smart agri-business investors switched to US agribusiness opportunities as Australia’s “friend and ally” moved quickly to take advantage of the supply gap in soft commodities.
China is beginning to grapple with inflationary pressures and this will impact the investment landscape.
Technical outlook for the Shanghai market
The Shanghai Index moved above the resistance level near 3,450 and then retreated to test the support function of the long-term group of averages in the Guppy Multiple Moving Average (GMMA) indicator.
The index did not fall as low as the previous resistance level near 3,450 and this is bullish behaviour because the retreat used a higher rebound point for the start of the new rebound rally.
This suggests that the longerterm target based on the triangle chart pattern is achievable.
The 3,450 level also formed the top of a long-term upwards sloping triangle pattern that commenced in early March. The uptrend line is placed along four major anchor points.
This combination of resistance and the upsloping trend line forms an upsloping triangle pattern. The base of the pattern is 125 index points.
Taking this value and projecting it above 3,460 gives a target near 3,585. The key feature is to watch how the new uptrend develops.
The retreat and rebound points provide anchor points for a new and more steeply angled trend line.
This breakout near the apex or tip of the triangle pattern is often weaker than breakouts that take place in the middle third of the patterns. The compression in the longterm GMMA confirms that investors are still cautious about the strength of the breakout.
The late breakout in the pattern and the tight compression in the long-term GMMA suggest the market may move more slowly towards the chart pattern upside targets.
The high probability of developing a rally and retreat pattern rather than a fast move to the upside target level has been confirmed with the recent index activity and this suggests it will be a feature of the new developing uptrend.
The calculated 3,585 target level does not match any previous support or resistance levels.
In a bullish environment the new market uptrend may exceed the chart pattern target and reach the next resistance level near 3,620.
The GMMA indicator is used to assess the way the breakout trend may develop in the future.
The long-term group of averages must develop wider separation before we can be confident that investors are fully supporting the trend breakout.
The continued compression suggests investors are waiting for a strong lead from traders and proof the breakout can remain above 3,460 before they enter the market again as strong buyers.
A move above the previous recent rally high near 3,529 will encourage investors to enter the market.