This leading indicator works for me … now put it to work for you!

No Comments » | Posted by Kiara Withers
Jun 20 2012

Being a true contrarian investor isn’t just about investing in unloved sectors of the market or specific stocks. It’s also about conducting research and discovering indicators that the crowd doesn’t follow — indicators that can help give clues as to the next probable direction of risk assets. I’m always on the lookout for such indicators, and have compiled many of them over my years of trading and investing.

For example, the crowd often looks at the U.S. dollar as an indicator of risk sentiment for the markets and, to be sure, it is. Generally when the dollar goes up, it means investors are seeking the safety of assets like Treasuries. And when it falls, investors are moving to riskier assets, such as stocks and commodities.

But if you’re looking to become a savvy contrarian investor, there is another “dollar” that can often be a leading indicator of risk appetite across the globe.

I’m talking about …

The Aussie

Over the past several years, the Australian dollar has become a pretty reliable indicator for global risk appetite. The reason: Australia’s economy is heavily reliant on exporting its industrial commodities, including iron ore, coal, nickel, and uranium.

As a result, the Aussie economy grows when the global economy (and in particular China) is growing. And it shrinks when global economic activity is declining. But because Australia exports commodities that are so closely linked to economic expansion, their economy usually starts to improve before the rest of the world, as companies and governments begin expansion projects. The opposite happens during times of global contraction.

Like many other nations, Australia’s dollar rallies and falls with the economy: When the economy gets stronger, the Australian dollar rises as markets anticipate rising interest rates in the country to combat inflation — and when the economy stalls the markets anticipate interest rate cuts to stimulate growth.

We can see the predictive power of the Aussie dollar in the chart below. It peaked in early March, way ahead of the stock market and before the commodity markets broke down. Even more recently, it put in a bottom before the stock and commodity markets rallied.

It’s important to note, then, that the Australian dollar is now running into resistance at the downtrend line that dates back to the March top. Contrarian investors know to watch this closely.

If it breaks through that downtrend, it could be a leading indicator that risk assets like stocks and commodities may be getting ready to turn higher. Likewise, if the Australian dollar fails here, it’ll be a sign that the weakness we’ve seen in stocks and commodities is probably going to continue for a while longer.

How to Put This Indicator
to Work for You

Now, I’m not saying that the Aussie dollar is the absolute predictor of stock market direction. But it is a less followed indicator for risk assets generally, and it is monitored by savvy, contrarian investors.

One way to play an upturn in the Aussie is by investing in an ETF that tracks global shipping. After all, if this indicator is telling you that Australia’s economy is gathering momentum, the rest of the world shouldn’t be far behind, thereby boosting international trade.

You could consider Claymore/Delta Global Shipping (SEA). Its holdings include international companies that are involved in shipping oil, natural gas, and other commodities throughout the world.

However, you might prefer the potential of even greater returns that can come from individual stocks …

In fact, I’m holding one in the Million-Dollar Contrarian Portfolio right now. The company is a leading provider of international ocean transportation for “dry bulk” goods including iron ore, grains and other commodities.

Of course I can’t reveal the name … that wouldn’t be fair to my paying members. But I can tell you this: From a growth standpoint, I feel that the worst-case scenarios have already been priced into the sector and shares. So if we get any sort of uptick in global growth, which the Aussie dollar is telling us is a real possibility, these shares could skyrocket!

Being a true contrarian investor involves more than just buying out of favor stocks or sectors. It also takes looking beyond the mass-followed indicators to find ones that are less followed. And that’s where you find the next probable move for stocks and other assets.

Best,

Tom

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