Charting Asia

Head, Shoulders, BHP Billiton

Commodities are hot this week, striking gold quite literally so to speak.

Platinum set a record for the second straight day Tuesday, and gold is on track to hit $1,000 an ounce on expectations of further U.S. interest rate cuts and record high crude oil.

Along with booming metals prices, oil prices are near an all time peak and agricultural commodities are also trading at record highs as supply shortages and investment flows pump up prices.

The concerns that the U.S. economy is at or entering a recession are creating a cycle: a plunging dollar sparks a rally in commodity prices, which in turn hit stocks further as a weakening global economy may now also have to deal with inflationary pressures.

And it is against this backdrop that Australian resource giant BHP Billiton has issued its bid for rival Rio Tinto . 

Melbourne-based BHP, the world's biggest mining company, in early February, formally proposed an all-share deal, to buy London-based Rio Tinto, in what would create a vast resources company. This has sparked off a lot of interest and trade in the the shares of the two firms, as well as a number of requests to chart the stock. Both companies are listed on exchanges in Australia and Britain. BHP also has American Depository Receipts (ADR) listed on the New York Stock Exchange.

So by popular request ... we chart the BHP Billiton ADR.

The weekly BHP (ADR) chart includes a surprising feature -- the development of a long term head and shoulder pattern. This is a trend reversal pattern and sets a potential downside target near $37.00.

These patterns have become very common patterns in bear market stocks and indices. But locating the pattern in a stock with intense takeover speculation is unusual, and offers an interesting caution on this as a take-over play.

The pattern develops with a trend peak and retreat. This becomes the left shoulder. The pattern continues with a higher rally or trend peak followed by a decline. This creates the head. This retreat is followed by a another rally. This developed  into the right shoulder when the rally collapsed.

The pattern has a neckline. This is created by connecting the lows of the left and right shoulders. In addition to providing a leading indicator of a significant trend change, the pattern is also used to established the downside targets. The distance between the neckline and the 'head' is measured. This value is projected downwards to set the downside target. These downside targets may appear extreme, but they are often very accurate.

For example, the head and shoulder pattern in the NASDAQ achieved its downside targets at the end of January. The downside targets are most reliable when they are also equal to previously established support levels, such as 2,200 with NASDAQ.

This pattern analysis suggests caution with BHP ADR for those expecting a much higher upside when the current takeover is fully played out. However, the analysis is also applied with caution because the head and shoulder pattern is being retested.

Head, Shoulders, BHP

This is the activity required to validate, or prove, the pattern:

  • A continued retreat from the neckline which is now acting as a resistance barrier.
  • A retreat from the $74.00 area on a weekly chart.
  • A fall below $64.00.

When these features develop, we would expect to see a continuation of the downtrend with targets in the $37.00 range.  The $37.00 level is a well established support level.

This is the activity required to invalidate the pattern and show a continuation of the long term uptrend:

  • A sustained close above $74.00 on a weekly chart.
  • A move above the neckline.
  • Trend strength is confirmed when the neckline is used as a support level for any suggested price retreat.
  • A retreat to the neckline followed by a price rebound. Price must move above the peak of the right shoulder near $79.00 before the head and shoulder pattern is completely invalidated.

Under these conditions the upside for BHP ADR is established initially near $87.00. Traders will watch for a appropriate method of trend definition to determine highs above this initial target.

Although the head shoulder pattern is used to set downside targets, it does not provide a useful method of setting upside targets when the chart pattern is invalidated.

This is a developing pattern and it may be several weeks away from either confirmation or invalidation. The chart pattern signals bear side caution. The developing pattern is seen on both the BHP ADR and the BHP Australia charts.

If you would like Daryl to chart a specific stock, commodity or currency, please write to us at We welcome all questions, comments and requests.

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