au stock focus further potential downside pressure in rio tinto aided by fed 2688882017

Since the post U.S. presidential election on 09 November 2016, commodities related stocks had staged a remarkable rally triggered by hopes of a mega USD 1 trillion infrastructure spending plan proposed by U.S. President Trump.

However, since mid- February 2017, these commodities related stocks had decline by an average of 15% to 18% which almost gave back half the gains recorded from 09 November 2016 low. Interestingly, the recent decline seen in commodities related stocks such as Rio Tinto came in line with a recent USD strength revival seen at the end of January 2017 due to recent hawkish comments from key Fed officials and a sell-off in commodities especially in oil (refer to chart 1).

Chart 1 – Movement of Rio Tinto against AUD/USD & CRB Commodity Index

(Click to enlarge chart)

Therefore, this coming Wednesday (15 March 2017) U.S. Federal Reserve FOMC meeting will have a potential impact on the share price of Rio Tinto and other commodities related stocks in the short to medium-term. It is not the outcome of FOMC meeting that matters now as expectations based on the Fed fund futures pricing (as of 13 March 2017) from the CME FedWatch tool has indicated a probability of 94% that the Fed will hike another 25bps on 15 March 2017 to 75-100bps, a near certainty done deal.  Right now, a potential factor that can move commodities related stocks after Wed’s FOMC is as follow;

• Changes in tonality of the monetary policy statement – From its previous two statements from the December 2016 and February 2017 meetings, the Fed had choose to maintain a neutral stance on survey-based measures of longer-term inflation expectations. It stated that such expectations were almost unchanged on balance. In a recent survey conducted by the Federal Reserve Bank of New York in February 2017 found that U.S. inflation expectations in a year ahead had rose for the second consecutive month in January to 3% from 2.8% in December 2016 and 2.5% in November 2016, a highest level not seen since mid-2015. Even the longer term inflation expectation (three years ahead) was up 2.9% from 2.8% in December 2016.  Therefore, there is chance that the Fed may sound more upbeat on future long-term inflation expectations that can solidify the pace of the remaining two projected interest rate hikes for 2017.

If such change of tonality materialises, it may lead to a resurgence of USD strength and make commodities more expensive due to its pricing in USD which may lead to lower demand. As U.S. President Trump’s infrastructure spending plan lacks details and yet to be approved by Congress, thus in the short to medium-term (1 to 3 weeks), a USD strength revival can create a negative feedback loop and add further potential downside to commodities related stocks.

In addition, WTI crude oil futures had started to fall steeply in the recent two weeks due to increasing supplies from U.S. shale producers and broke below the key long-term support zone of 50.00/49.60 per barrel. If there is another price war that breaks out between OPEC and U.S. shale producers after the Saudis engineered production cut agreement between OPEC and non-OPEC nations ends in June 2017, oil prices are likely to tumble further and next major support for the WTI crude oil rests at the 37.20/36.50 zone. A further weakening of oil price is going to bring back the “dark days” of 2015/16 that is likely not to bode well for commodities related stocks.

Now, let us take a look at one of major commodities related stocks, Rio Tinto from a technical analysis perspective

Technical Outlook on Rio Tinto (ASX: RIO)

(Click to enlarge chart)

Key technical elements

• The daily RSI oscillator has continued to inch downwards after it flashed a bearish divergence signal on 15 February 2017. Current level of the RSI still has room to manoeuvre to the downside before it reaches an extreme oversold level of 21. These observations suggest that the recent downside momentum of price action remains intact in the medium-term.
• The recent16% decline in Rio Tinto from its February 2017 high of 69.80 in terms of magnitude and time has appeared to be overstretched where it may see a potential short-term rebound towards the intermediate gap resistance of 62.30/63.02.
• The key medium-term resistance stands at 65.50 which is defined by the gap resistance of 23/24 February 2017 and the 61.8% Fibonacci retracement of the recent steep decline from 22 February 2017 high to 13 March 2017 low.
• The significant supports rest at 56.26/55.30 zone which is defined by the lower boundary of the ascending channel in place since 03 February 2016 low and the former swing high areas of 11 August/09 October 2015.

Key levels (1 to 3 weeks)

Intermediate resistance: 62.30/63.02

Pivot (key resistance): 65.60

Supports: 56.26 & 55.30

Next resistance: 69.80

Conclusion

Rio Tinto may see a minor rebound at this juncture towards 62.30/63.02 before another potential downleg materialises to target the next supports at 56.26 and 55.30.

However, a clearance above the 65.60 pivotal resistance is likely to invalidate the preferred bearish tone for a further push up to retest the February 2017 swing high at 69.80

Charts are from eSignal

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