Commodities have underperformed most of the public market over the past couple of years, but one bright spot that has managed to counter the trend is timber. Shifts in the underlying fundamentals have led to consistently higher prices, but the increased momentum in recent months may have gotten ahead of itself, and the sector could be primed for a pullback. In this article, we take a look at the charts and try to determine how active traders will plot their next move. (For related reading, check out: Active Traders Are Turning Bullish on These Commodities.)
With the rise in popularity of exchange-traded products such as the Guggenheim Timber ETF, it has never been easier for retail investors to gain exposure to the global timber market. In case you aren't familiar, this fund is designed to track the performance of the MSCI ACWI IMI Timber Select Capped Index, which comprises large-, mid- and small-cap stocks across 23 developed market countries and 23 emerging market countries. Taking a look at the chart below, you can see that the fund is currently trading within one of the strongest uptrends found anywhere in the public markets. As any technical analyst will tell you, the price action over the past several weeks has not shown any signs of a major reversal. However, short-term readings on indicators such as the relative strength index (RSI) are starting to produce signals suggesting that a pullback toward major support levels could be in the cards.
The RSI is one of the most popular tools used by traders for determining when an asset is "overbought." Readings above 70 are the most popular for gauging when momentum has run its course and could be running out of steam. Traders generally watch for a move below 70 to trigger a pullback, so many will sell and then look to buy again once the price reaches a more lucrative level. In this case, traders will likely watch for a pullback toward the combined support of the 50-day moving average and ascending trendline. These two levels have predictably offered strategic buy points over the past several years, and technical traders would expect this behavior to continue unless the price notches several consecutive closes below $31.72. (For further reading, see: The Four Most Common Indicators in Trend Trading.)
Weyerhaeuser is one of the world's largest private owners of timberlands and controls nearly 13 million acres in the United States. As in the case of the ETF discussed above, the RSI has recently moved into overbought territory, which suggests that the recent surge in momentum could start to lose conviction. In fact, Monday's timely 2.06% move lower has caused the RSI to move below 70, which suggests that traders will now be on the lookout for the pullback to continue. Most traders will likely wait for a buying opportunity near one of the long-term support levels. (For more on this topic, check out: Timber Investments Cut Down Portfolio Risk.)
Rising timber prices have also put the focus of many traders onto paper and packaging companies such as International Paper. Taking a look at the chart below, you can see that the price recently broke out of an ascending triangle pattern. The resulting breakout is common after moving above the resistance of the pattern, but the overbought reading on the RSI suggests that a pullback toward the support of $58.61 could be under way. Bullish traders will likely look to re-enter once the market offers a better risk/reward. (For more, check out: Technical Indicators Suggest Opportunity for Forestry Stocks.)
The Bottom Line
Timber stocks have had a great run higher over the past several weeks, but based on short-term indicators such as the RSI, it looks as though a short-term pullback could be in the cards. Based on the charts, we would expect bullish traders to re-enter once the prices of the assets near major support levels such as those identified above.
Charts courtesy of StockCharts.com. At the time of writing, Casey Murphy did not own a position in any of the assets mentioned.