DIY Investor Magazine
/
March 2017
16
Dominique Riedl,
CEO, justETF
AN INTRODUCTION TO COMMODITY
INVESTING WITH ETFS
The main attraction of commodities is in their potential to
diversify your portfolio beyond the staple asset classes
of equities, bonds, property and cash.
Commodities have shown a very low correlation
to equities and bonds in the past and strongly
outperformed them both during the high-inflation of the
1970s.
That promise of performance in conditions that hit
equities and bonds hard makes commodities worthy of
serious consideration in an all-weather portfolio.
Commodities, of course, are the raw materials of global
production. The main commodity categories cover:
•
Agriculture – example commodities include
wheat and coffee.
•
Energy – think oil and gas.
•
Precious metals – gold and platinum are
your poster boys.
•
Industrial metals – zinc and copper, for instance.
•
Livestock – hello lean hogs and cows.
Naturally you can gain exposure to the diverse trade in
commodities through
Commodity ETFs seek to capture the return on the
major global commodities by tracking a commodity
index and trading on the stock exchange. You can also
track single commodities - for example gold - using
another investment vehicle called an
Whereas an ETF is a fund, ETCs are debt instruments.
That enables them to circumvent European rules that
prevent funds from concentrating their assets in a single
holding but it also exposes ETC investors to credit risk.
‘EXPOSURE TO THE COMMODITY WITHOUT FRETTING
ABOUT THE NOISE, SMELL AND ABLUTIONS OF 10,000
LEAN HOGS’
HOW COMMODITY ETFS WORK
The unexpected thing about commodity ETFs is that
they don’t track the current price of commodities,
instead they respond to the futures price. This is not as
daft as it sounds…
The current price for a commodity is known as the spot
price. When you hear about the price of oil shooting up
in the news, the reporter will normally be talking about
the spot price.
This is the price you’d pay right now to take delivery of a
barrel of oil immediately. Or it might be a ton of sugar or
a wagonload of cows.
But we don’t want a wagonload of cows on our hands,
or a shipment of oil. Unlike with holding millions in equity
securities, our ETF manager would be forced to charge
us horrendous storage costs to stash away all those
cows until we needed them.
So commodity ETFs deal with that problem by trading
in commodities futures and tracking the future’s price
instead.
