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Most investors choose to gain exposure to commodities through purchasing ETF’s. Most marketing material from product providers illustrate the
performance of their ETF by comparison to the underlying Commodity index not the commodity future itself.
The following slides compare the performance of ETF’s relative to the continuation chart or the spot price of
the underlying
Note the performance of the spot price or near term contract in white relative to the performance of the ETF in green
Oil WTI
Wheat
Corn
Live Cattle
Soybean
Brent Oil
Gold
Aluminium
Copper
Lean Hogs
Sugar
Natural Gas
Gas Oil (Heating Oil Europe)
Heating Oil (US)
Kansas Wheat
RBOB Gasoline
Cotton
Coffee
Feeder Cattle – no ETF
Nickel
Zinc
Cocoa (ETF Leveraged)
Lead (ETF Leveraged)
Silver
A remarkable number of ETF’s have underperformed the underlying commodity it purports to track
The marketing literature of most ETFs explain that the ETF will track the underlying commodity less
• Seasonal factors• Supply/ demand on the underlying commodity• Trading commissions• Fund manager charges
What is the effect of supply and demand
• As an investor in an ETF there is little that can be done with regards to trading commissions and managers fees.
• However supply and demand and seasonal factors have an important impact on the price of commodities, both for the near-term contracts and contracts with a later date.
• The commodity curve (the future price) is said to be in Contango if the cost of a commodity in higher in the future than the price for near delivery
• If the future price is less than the present price then the commodity is said to be in backwardation. Backwardation can mean that demand is greater than near term supply.
The effect of BackwardationSugar in Backwardation Feb 06
ETF performs well 06 to 07
The effect of ContangoSugar in Contango Feb 2008 ETF underperforms 08 to 09
Conclusion• Commodity Index ETF performance receives a considerable tailwind
from a futures curve in backwardation. • Therefore assessing the shape of the futures curve is virtually
essential to the decision making process in buying commodity index funds
• If the futures curve is in contango, consider a short ETF• If commodities move into another speculation driven advance, last
seen in 2008, we can expect the futures curve for a large number of commodities to move into backwardation.
• Important to have an exit strategy prepared for the next such broad based momentum run.
• Caution: There is the potential for legislation against such funds during the next big upside move in commodities where speculators will be accused of driving commodity prices higher.