Time To Drop Copper?

01/27/10 10:12:21 AM

by Donald W. Pendergast, Jr.

Up nearly 200% since 2008's bear market low, high-grade copper futures appear to be running out of steam. Where are the most solid support levels for this essential commodity?

Security: HG, JJC
Position: N/A

After plunging from 2008's commodity mania high of 427 to its bear market low of 125, the chances of a sustained rebound in the copper futures market (HG) appeared to be slight; many technicians were surprised to see it make it to the Fibonacci 50% retracement level (235) without another substantial corrective move lower. An old commodity traders saying opines that you can't apply the art (or is it a science?) of technical analysis to most commodity futures markets and expect the same kind of success that you would get in the equities markets, as the fundamental forces of supply/demand are thought to be more important in commodities than in the equity markets. I can't say if that's true except perhaps in the case of very thinly traded markets, but the fact that both copper and crude oil staged such major rebounds during 2009 should make us see that technical analysis is only one of many tools needed to properly assess the current configuration of a given commodity market. Supply/demand and seasonal and COT data also need to be factored into the mix, especially for those who favor trend-following methodologies.

That said, let's take a look at the state of copper's weekly continuous chart, one that is giving ample warning of a corrective and/or trend reversal move in the days/weeks ahead.

FIGURE 1: COPPER, WEEKLY. With significant negative divergences in place, the lopsided extremes between the commercial and large speculator trading camps appear to be resolving in favor of the big-money commercial interests. The area near 275–280 should offer some support, however.

Graphic provided by: MetaStock.

Graphic provided by: WB Detrend RT EOD from ProfitTrader for MetaStock.

On Figure 1, a weekly chart, we see the Keltner bands complex along with the 21- and 50-week exponential moving averages (EMA) (plotted in red and blue, respectively). These, along with simple Fibonacci retracement analysis, can help us spot high-probability zones of support and resistance (S/R). In addition, at the top of the chart we find the detrend oscillator and at the very bottom we see the Chaikin money flow.

Here are the essentials that every copper trader needs to be aware of:

1. Pronounced, negative price-momentum and negative price-money flow divergences (dashed red lines on chart) are well-established and the recent price weakness seems to be finally confirming these warning signs.

2. Commercial interests are carrying extremely large short copper futures positions, even as the large speculator (hedge fund) interests are exceedingly biased on the long side of this market. Yes, the commercials appear to be selling the large specs all the copper they can handle, fully expecting to cover such short sales at lower price levels.

3. The spread between the 21-and the 50-week EMAs is starting to flatten out, another possible early warning of further price weakness ahead.

Okay, big deal, now what? Well, if you're currently long in this market, you may want to start scaling out of existing long positions and/or running a tighter trailing stop. Short sales don't look like a good idea here, at least not until a bona fide trend reversal manifests. However, we can likely anticipate a bit of support at or near the 21-week EMA (red line), followed by much more substantial support at or near the 50-week EMA (blue line). That price area (around 272-278) also is host to the Fibonacci 38% retracement of the December 2008 to January 2010 trend thrust and the weekly Keltner band midline (based on a 45-week EMA). If copper descends below 285-280, watch the price action in the 275-280 area, as it may well offer daily traders the opportunity to time some long swing trades from that area of solid support. The weekly cycles for copper are still in down mode, and its monthly price cycles are looking toppy, so you may want to be nimble, even if you do locate some favorable risk-reward long swing trade setups in the 275-280 area. We all remember how far and how fast copper dropped in 2008, and there is always the possibility of another major selloff, especially given the near-record disparity between the commercial and large spec interests in the futures market. There is also the possibility of significant selloffs in the gold, silver, and crude oil markets as well.

Forewarned is forearmed, as the old saying goes.

Donald W. Pendergast, Jr.

Donald W. Pendergast is a financial markets consultant who offers specialized services to stock brokers and high net worth individuals who seek a better bottom line for their portfolios.

Title:	Writer, market consultant
Company:	Linear Trading Systems LLC
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Time To Drop Copper?

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