This Stock Is Flashing a Warning for Resources

Not surprisingly, stocks dropped around the world overnight in reaction to yesterday’s attack on Saudi oil facilities and a soaring oil price.

But the damage wasn’t too bad. The Dow fell 0.5% while the S&P 500 declined 0.3%. Yesterday, the Aussie market closed marginally higher, largely thanks to a big increase from BHP.

In other words, stocks aren’t too worried about this latest oil spike. That’s a little concerning. Complacency doesn’t usually end well in markets.

I mean, the price of Brent crude soared 15% in one day and stocks barely batted an eyelid! Remember, this is effectively a tax hike. The price didn’t rise based on strong demand and robust economic growth. It’s rising into a global slowdown.

I can only assume the stock market doesn’t think the supply disruption will last long, and that any impost from higher oil prices will be offset by more central banking madness.

But there is the little matter of potential war brewing with Iran. While I think this is a low probability event, it does represent a huge risk to global oil supplies. The 15% rally in Brent crude yesterday acknowledges this, as it should. But stocks are happy to look right through it!

Or perhaps it’s because the US is a net energy exporter these days. Higher oil prices are not as damaging as they once were for the US economy as a whole.

But that’s not the case for China, the world’s largest importer of crude oil. China is already suffering from a 40% increase in the price of pork this year — a staple meat. Inflation is running at its highest level since 2013, yet retail sales, investment and industrial growth all slowed in August, figures released yesterday showed.

This oil price spike isn’t going to help with any of that…

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Nor will trying to weaken the currency, which has been China’s strategy to offset the effect of US tariffs. As the Wall Street Journal reports:

Expensive oil makes looser monetary policy riskier too. Analysts widely expect an imminent cut to rates on a key central bank lending facility that underpins China’s new benchmark lending rate. But policy makers remain trapped between a weakening economy and too-pricey food and housing. House prices are still up over 10% on the year, and growth in housing investment actually accelerated to a four-month high in August.

The outlook for Chinese growth is weaker than ever. Given the constraints, though, modest rather than overwhelming 2015-style policy stimulus is probably the best investors can hope for.’

Good old hope. You can’t put a price on it…

The resources sector is on the front line

Hope for more stimulus, whether it be fiscal or monetary, is propping up stock markets around the world. We’re in the midst of market nationalisation by stealth. Authorities own the stock market, if not literally, then certainly figuratively. They dictate their movements. You get what they give you.

Out in the real world though, there are still actions and consequences. Yesterday, steel recycling giant Sims Metal Management Ltd [ASX:SGM] issued a profit warning. Its stock price plunged 10%. From Sims’ ASX release:

Commenting on the rapid deterioration in the market, Alistair Field, CEO and Managing Director, said “the escalating trade wars that I discussed at our year-end results continue to reduce the demand for steel and aluminium. At that time, Steel mills appeared to be managing the lower demand, but in early September they materially reduced their scrap purchases, and also their outlook for scrap purchases. This reduction in demand for scrap has driven a steep fall in prices. The current sales price results in a buy price that is potentially below the level at which it is economic for a number of our suppliers to gather and sell scrap. Alternatively, some suppliers may choose to sit on inventory until the price recovers.

Automobile sales also continue to fall and this is impacting the demand for twitch, with an accompanying fall in price.

In case you were wondering (I had to look it up) ‘twitch’ is basically the aluminium and magnesium separated from other metals in the auto shredding process. There you go…you learn something every day.

The more important point to note here is the ‘rapid deterioration in the market’ that Sims is experiencing. That’s largely thanks to China. As I mentioned earlier, data released yesterday points to a widespread slowdown across China’s economy.

Low interest rates and the expectation of never ending stimulus may buoy global markets in a broader sense. But when slower growth hits a company’s profits, there is no protection.

In my view, the resources sector is on the front line here. Notwithstanding the spike in oil prices that will benefit the energy sector in the short term, there are signs that ‘digging’ activity is slowing.

A company I keep a close eye on called Alliance Aviation Services Ltd [ASX:AQZ] is a good barometer of activity in the sector. It provides fly-in fly-out services to a range of miners.

Here’s a share price chart:

17-09-19

Source: BigCharts.com

[Click to open in a new window]

Yesterday, the price broke lower. That’s not surprising for an airline given the oil price spike.

But note how the share price rallied in July to an all-time high. This came just ahead of its best profit result on record. It then turned down quickly.

In other words, the market is saying this is as good as it gets. The moving averages have just crossed to the downside, suggesting a downward trend may now be underway.

Is this the canary in the coalmine for the resources sector? I don’t know, but it’s certainly not bullish. It’s just another reason to believe the cycle is turning for resources.

Regards,

Signature

Greg Canavan,
Editor, The Rum Rebellion

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Greg Canavan approaches the investment world with an ‘ignorance is bliss’ philosophy. In a world where all the information is just a click away at all times, Greg believes we ingest too much of it. As a result, we forget how to think for ourselves, and let other people’s thoughts cloud our own. Or worse, we only seek out the voices who are confirming our biases and narrowminded views of the truth. Either situation is not ideal. With regards to investing, this makes us follow the masses rather than our own gut instincts. At The Rum Rebellion, fake news and unethical political persuasion are not in the least bit tolerated. It denounces the heavy amount of government influence which the public accommodates. Greg will help The Rum Rebellion readers block out all the nonsense and encourage personal responsibility…both in the financial and political world.


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