A glance at the chart below of the FTSE 100 highlights the sharp falls experienced in equity markets this week, as concerns about contagion from Greece intensifies.
Investors gave a guarded response to the confirmation from the European Union and the International Monetary Fund (IMF) of a €110 billion loan programme and tough fiscal austerity measures for Greece. The yield on Greek 10 year government bonds jumped 77 basis points to 10.14%, which marked a new high amid violent protests in Athens against the government’s austerity plans.
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Fears of contagion have grown dramatically, as Moody’s Investor Service put Portugal’s credit rating on review for a possible downgrade. Sovereign debt and credit markets in both Portugal and Spain suffered fresh turmoil, while the Euro slid to a 14 month low against the US dollar. However, Spain’s Prime Minister denied rumours that his country was about to ask for aid. The current dynamic in the eurozone is forcing the market to seriously consider rethinking the global recovery story that has sent equities up over 65% in the past year.
Government action in Australia, to hike the tax payable on mining companies’ profits, also triggered a sharp fall in UK equities, as the heavyweight mining sector reacted negatively to the prospect of reduced earnings going forwards. The Australian dollar retreated as another rise in domestic interest rates, the sixth in eight months, concerned investors that the policy tightening could dampen the recovery in equities.
Economic data out of the US continued to offer support to the global recovery story, as this week’s manufacturing data showed that the sector rose at its fastest pace since 2004. The Institute for Supply Management’s (ISM) factory index rose to 60.4 in March, which marked the highest level since June 2004. A reading above 50 denotes expansion in activity and the ISM has been above 50 for the past nine months.
Technical analysis of the above chart shows that the recent near 10% fall on the blue chips has pushed the index below initial support at 5400 and the uptrend that has been in place since last July. Prices are currently testing the next major level at 5200, with further support seen at 5050 and the psychological 5000 level.
The oscillators are in oversold territory, with both the relative strength index (RSI) and stochastic trading at multi-year lows, indicating that the selling momentum may be almost exhausted and a rapid bounce could be imminent. However, a break below 4960 would be viewed as extremely bearish and could trigger a rapid retracement back towards 4500.
In summary, I have been nervous about equity markets for some time and have written about my concerns over the eurozone for the past 10 weeks, so the recent moves have not been entirely surprising. The market had almost become complacent and a pull-back was overdue and healthy for the continued recovery in equities.
Eurozone officials have taken action to contain the Greek problem and I believe that the 650+ point fall on the FTSE 100 offers an attractive buying opportunity to take advantage of the longer term recovery in equity markets.
Miners have taken a hit this week due to the proposed introduction by the Australian government of the ‘Henry Tax’ a 40% tax on the realised value of resource deposit revenues minus the associated costs. City analysts estimate that the ‘Henry Tax’ will raise the effective tax rate to between 57% and 58% of profits. The Australian Government maintain that the tax will not hinder industry growth as the main beneficiaries will be mineral deposit exploration firms.
Crucially, this legislation only comes into play if the current Labour government get re-elected in 2011 and then into force in July 2012. Additionally the proposal is not completely set in stone, in fact, given the size and power of the mining industry in Australia, it would not be a surprise to see the ‘Henry Tax’ watered down in some form or another.
The perception amongst the City is that the tax will cancel or delay many Australian mining projects, whilst initially this appears a negative development, it may be somewhat mitigated by the constrained supply side, which may push mineral prices up and so the effects of the tax may be felt less in real terms by the large-cap miners. The negative price action has been felt across all mining companies, as there is a fear that other countries could copy Australia with higher taxes on the industry.
However, the weakness in the wider market has contributed towards a broad based sell-off and many of the miners listed on the FTSE 100 have fallen in excess of 20% in recent weeks.
Xstrata [Epic: XTA] is a major diversified mining group, with a significant exposure to copper, coking coal, thermal coal, ferrochrome, vanadium and zinc. The group’s operations and projects are focused in Australia, South Africa, Spain, Germany, Argentina, Peru and the UK.
As can be seen from the above chart of Xstrata the shares have fallen over 25% in the past month and are now trading within close proximity of key historical support at 950p and the lower Fibonacci retracement level at 935p
The oscillators are all significantly oversold and showing early indications of turning higher. The RSI is below 30 and appears to be leveling off, indicating that the selling may be exhausted and the stochastic is denoting similar characteristics.
I believe that the bad news is already priced in and if we combine our earlier analysis of the FTSE 100, this could offer an attractive opportunity to take advantage of the sector correction.
At the time of writing the share price of Xstrata is 1008p and I believe the shares will move higher in the short term. Near term targets are seen at 1056p, 1079.5p and 1125p, with a stop loss marginally below support at 631p.
Disclosure: No positions