Panic Grips The Commodity Markets

Topics Covered

• Equities becoming short term oversold
• Dollar up 13 days in the row at 4SDs
• Precious Metals sentiment extremely bearish

Overview

The selling pressure continues across the board in risk assets, while safe havens are bid. While the US equities have been outperforming rest of the global equities, Dow Jones is still down 9 out of the last 10 days. Commodities have been under most pressure, especially metals and energy (apart from Natural Gas). Treasury Bonds are now up 9 weeks in the row, with German 10 Yr Bunds having reached record lows of 1.44% this week. The US Dollar is up 13 days in the row, which has never occurred before. Finally, Grains have held up very well in the last few days, while Softs remain weak. The bottom line is investors are selling risk due to possibility of a disorderly default in Eurozone, triggered by Greece as the first domino.

Economic Data
Nothing new to report.

Equity Markets

S&P 500 has failed to hold above polarity line "in the sand" at 1,350. That is not a very good sign, and could signal that the breakout we experienced in middle of February is just a bull trap, despite a new bull market high. As some wise man once said, market top is a process and not an event, so I wouldn't rush to short equities just because of this. In that regard, maybe this is a sign that the process has started, however I am not yet looking at opportunities to short the market, especially with the current price action. What do I mean by that?

First of all, the market price is now becoming oversold. Sure, if the panic continue to set into the overall environment, prices "could" get even more oversold like in August 2011. But I am not so sure that will happen straight away. We discussed the topping process theory above, and since the price is still above the 200 day MA, we have to respect that the bulls are in charge and could create a recovery at any point.

Second of all, sentiment readings in various surveys, including AAII (chart above), show excessive amount of bears relative to bulls from the short term perspective. In previous occurrences this has almost always created a decent bounce (at least) or even a strong rally. Obviously negative sentiment in an uptrend, while prices are above 200 day MA, have a stronger possibility of delivering a contrarian signal than during a downtrend when prices are below 200 day MA.

SentimenTrader's own indicator - which is collective information of volume, options, breadth, fund flows, sentiment surveys and insider buying - shows excessive pessimism in the short to medium term as well. Previous occurrences when readings got this low (inverse on the chart), almost always managed to create some type of an intermediate low in the equity market. From there, either a bounce or a proper rally ignited. Some short term swings are also possible.

Statistically, Dow Jones is now down 9 out of the last 10 days. Futures indicate that Dow is about to do a 10th down day out of 11. Historically, this is quite a rare event. How rare? Only 20 times over the last 110 years of decent market history. Stats show that out of the 20 times this occurred, only three times it has been while the Dow was above its 200 day MA. In other words, this type of selling pressure usually occurs during bear markets, so it is even more rare during bull markets. Eventually, the streak will be broken.

Furthermore, as a slight note, intermediate corrections usually run for about 30 days at most and decline between 5 to 10 percent. The current correction is now running for 31 days and S&P futures have declines almost 7.5% from intra day high to current levels (as of writing this article). Finally, moving onto breadth, we have the following readings in the short term indicators, which are now signalling oversold levels:

• S&P % Of Stocks Above 50 MA
• NYSE 10 Day Advance Decline Issues
• NYSE 10 Day Up Down Volume
• NYSE McClellan Oscillator
• S&P Bullish Percent Index
• S&P Breadth Down Pressure

During intermediate corrections of an uptrend / bull market, various breadth readings listed above have currently reached levels where the market staged rallies in the past. With bearish sentiment and oversold technicals confirming this outlook, we should soon start to stabilise. However, if we do not rally, investors should take this a warning signal that a more serious correction is at hand (10% or more).

Due to the election year seasonality currently being in progress, the stock market tops being a process, currently breadth / sentiment being very low and finally technicals oversold, I am willing to give the stock market the benefit of a doubt, despite breaking below 1,350. I'd expect a recovery from current levels as long as the price does not break very hard below 1,300. If the rally starts, I will judge it with a magnifying glass to try and pick up any major signals of either further weakness or potential strength.

Bond Markets
Nothing new to report.

Currency Markets

As I am writing this article, the US Dollar is up again. This now makes the advance a 14th day streak, something that has never ever... ever happened. The longest streaks US Dollar has managed was 11 days in July as well as in September of 1975. Furthermore to this overbought historical stat-measure, the price of the Dollar is also trading in its 4th standard deviation away from the mean. This is also quite a rare event, which indicates short term overbought readings.

Looking at the sentiment, it is obvious that a love affair in the US Dollar is currently present. Obviously it has less to do with love to be honest, and more to do with the fears coming out of Eurozone. So let us call it the fear affair, or fear trade. Nonetheless, when majority get this afraid, usually something opposite is going to occur. In other words, while anything is possible in today's market environment, due to such wide spread fear, I am reluctant to think that a major panic is about to occur right now, similar to that of Lehman in 2008. Authorities or global central bankers could signal uniform action of some type to clam the markets in the short term. Key word is "could"...

But, I must say something else too. Technically, the US Dollar is at a resistance, which we last saw in middle of January 2012. Therefore, since Mr Market loves to trick us all from time to time (pulled a few tricks on me lately too), maybe we can see the DXY Index break above 82 resistance. At this point, technical analysts would think that a major rally would be starting, while the rest of us contrarians would let the move exhaust and than most likely short it. So do keep the technical picture in mind.

Commodity Markets

Yesterday, Gold price fell towards the 29th of December bottom at around $1,530. The price was so oversold, that we managed to reach into 4th standard deviation on the downside (opposite of the US Dollar's upside). Technical RSI level is now as low as Lehman type of a reading during 2008. Other than that, no other time has Gold been this oversold apart from the 1999 low in mid $250 price range per ounce. 

Daily Sentiment Index yesterday reported that futures traders are extremely pessimistic. Currently, we only have 5% of bulls on the yellow metal. Silver and Platinum are just about the same too. Public Opinion by SentimenTrader as well as Hulburt Gold Newsletter Sentiment Index, both confirm this outlook too. Silver and Platinum Public Opinion is totally depressed. Finally, I am pretty sure that a lot of hedge funds cut their Gold futures positions, which we will see in tomorrows COT report (and obviously next Fridays too).

Furthermore, looking at the GLD fund flows, it is evident that retail investors hit the panic button all this week into yesterday. Dumb Money pulled out over 5 billion dollars out of the ETF. I personally think that after a three month decline in both Gold, Silver and Platinum, now is the worst time to be selling. I am obviously talking from a shorter term perspective, so this doesn't have to mean that the correction is over is over in this sector.

Other than the Precious Metals sector, all other commodities are also extremely oversold too, apart from Natural Gas as already started above. Continuous Commodity Index has suffered an extremely oversold condition and could be ripe for a bounce. Agriculture continues to show signs of a bottom, by first re-testing and than strongly bouncing of its major lows. Sentiment in the overall commodity complex is very very dismal. Be it Crude Oil (energy), Copper (metals), Cotton (fibre), Wheat (grains) or Gold (money), all major sub-sector groups are ready for some type of a bounce from extremely oversold conditions and insanely high bearish sentiment.

Credit Markets
Nothing new to report.

Recommandations

My watch list currently consists of SLV Calls and S&P 500 Calls. I will be executing both / either in coming days or week, depending on price action. At present, I do not recommend any core holdings in futures, ETFs or other tangible assets, due to the systematic risk from Greece. Options reduce downside risk and increase upside potential.