Industrial metals have been on a tear since we called a bull market just about a year ago. However, we have recently witnessed some price weakness over the past couple of months.
Commodities like industrial metals are cyclical assets which tend to run in the same direction for long periods of time. The key is to recognize the peaks and valleys of the cycle to time your purchases accordingly.
The industrial metals ETF: peak or pause? Source: MetalMiner analysis
The ongoing bull market in industrial metals has run for over a year and while some metals are experiencing some setbacks, it’s a good time to bring up the question: Are we nearing a peak or this is just a pause before prices break on the upside?
To answer this question, let’s look at what the main macro drivers are telling us:
China: Strong Indicators
As we all know, China is the world’s largest producer and consumer of industrial metals. Any changes on China’s supply and demand equation can have a huge impact on the price of metals. The performance of Chinese stock markets are a great gauge of investors’ sentiment on China’s economy. Since China became a major economy, we’ve seen a strong correlation between Chinese markets and metal prices.
Chinese stock market etf trading near highs. Source: MetalMiner analysis
Price momentum in Chinese markets has indeed picked up this year, trading near a two year-high. The latest economic indicators continue to increase investors’ confidence in China.
The country reported growth of 6.9% in the first quarter, its fastest pace since the third quarter of 2015, fueled by credit and infrastructure spending as well as a stubbornly booming property market. Growth prospects in the country also seem to be improving thanks to easing trade tensions with the U.S.
In China, investment in buildings, factories and other fixed assets grew 9.2% in the first quarter, while construction starts rose 11.6% during the same period. If that’s not enough, in April, China’s government announced plans to build a new megacity from scratch. The construction will require massive amounts of steel and industrial metals.
This growth translates into solid demand for industrial metals at the same time as China applies stricter anti-pollution rules and supply-side reforms designed to cut capacity in energy-intensive sectors like steel and aluminum. Overall, while we continue to see strength in Chinese markets, we are not ready to call peak in this industrial metals bull market.
US Dollar Falls to 5-Month Low
Base metals are commodities and, as such, move in opposite directions to the dollar. Over the past 20 years, every major bottom in commodities have coincided with a major peak in the U.S. dollar and vice versa. For a continuation of a bull market in industrial metals we should see weakness in the dollar. This year we have seen that.
The U.S. dollar index falls to a 5-month-low. Source: MetalMiner analysis
On Monday, the dollar fell to a five-month low due to a surge in the euro after the first round of the French presidential election eased concerns about the future of the European currency. The election outcome could continue to support the euro as markets price out the risk of a far-right victory.
If centrist candidate Emmanuel Macron gets elected in the final round (May 7), markets might start to focus on the positive macro picture of the euro-area and its higher growth relative to the U.S. That could potentially devalue the dollar against the euro, a bullish development for industrial metal prices.
What This Means For Metal Buyers
Industrial buyers need to watch closely for signs of a market top. For now, the recent price weakness in industrial metals seems normal in the context of a bull market and key indicators such as China and the dollar favor a continuation of this uptrend. Industrial buyers should continue to manage their commodity price risk exposure until we see real signs of a market peak.