Commodity Investment Basics

Relative Performance of Equities to Commodities

The above chart shows cyclical moves in commodities relative to investing in the S&P 500, which can lead to potential investment opportunities in commodities.

The periods 1970-1974, 1987-1990 and 1998-2008 show outperformance of commodities relative to the S&P 500 on the order of 800% occur with cyclical regularity. Today’s geopolitical and economic conditions are deteriorating exacerbated by the US-China trade war and Hong Kong protests which are accelerating the reallocation to commodity.

Participating in this asset class transition could lead to dramatic investment performance outcomes that could impact investors and their lifestyles like those previous periods 1970-1974, 1987-1990 and 1998-2008 which encompassed four historic equity bear markets and commodity rallies.

Figure 2.  Soybean growing/export seasons (Brazil vs US)

Price Dynamics of Commodities

Each commodity has different price dynamics and could be impacted by different factors such as:

• Copper (Symbol: COPX)
• Based on [11], the risk/reward of investment in copper looks positive now because:
1. Structural trends ahead are electrification, renewable energy, EVs, increased travel, and continuous, fast economic growth in developing countries with approximately 6 billion people. For all of that, you need copper.
2. Copper is in limited supply to cater for the growth in demand, and prices are bound to increase. This creates a very positive risk/reward investment opportunity.
3. The current sentiment, based on a myopic view of the situation, is negative, and copper miner stock prices are suppressed alongside other commodities.
• Sugar (Symbol: CANE)
• The price of sugar has been closing in on the lows under the weight of ample supplies and declines in the currency of the nation that is the world's leading producer and exporter of the sweet commodity.
• Brazil is the world's leading producer and exporter of sugarcane. While sugar futures use the US dollar as the global pricing mechanism for the soft commodity, local costs are a function of local currency values. Therefore, the currency relationship between the US dollar and the Brazilian real has a significant influence on the price of sugar futures.
• Gold (Symbol: GLD)
• Based on seasonality, gold performs much better in the second half of the year than the first.
• Central banks want to own more gold and this booming trend is only likely to continue in the coming years, said Australia and New Zealand Banking Group (ANZ).
• Heightened global tensions, currency wars, and a move to de-dollarize are driving emerging market central banks (e.g. Russia, Turkey, Kazakhstan and China) to boost their gold purchases.
• Gold is a strategic asset, from a risk-adjusted returns perspective, so amid heightened economic and geopolitical risk, we see it benefiting from its safe-haven status.
• Over very long periods of time, the gold price generally keeps up with the growth rate of money supply per-capita, because the amount of gold per person is relatively fixed while the number of dollars per person in existence keeps growing.^[10]
• Oil
• Crude supply based on HFIR's analysis suggests Q4 2019 deficit will be massive^[7]

Figure 3.  Crude Oil (CL) Seasonality

Commodity Investment in an Inflation Environment

Should long-term rates rise enough that inflation becomes a concern, investors could beef up commodity investments because of the following considerations:^[1]

• Safe havens
• Commodities like gold and crude oil become havens
• Inventory buildup
• Governments of heavy commodity-importing nations may hoard inventory as they did in 2008, severely driving up prices of commodities such as wheat and copper. 
• Diversification
• Portfolio managers will turn to commodities as a way to diversify as they sell equities, which tend to suffer in high-interest rate environments as borrowing costs for businesses rise.

Andrew Hecht's Short-Term Investment Style

As a trader, Andrew Hecht love to use Leveraged ETN Products for intraday trading purposes.^[2] However, He rarely if ever holds them overnight and has never kept a position for longer than one week as the theta risk outweighs the market risk, in his opinion.

His strategy over the years has been the same when it comes to these instruments. For example, he is a gold bull in the long-term and is always looking to add to his physical holdings. He tends to use his profits from trading the triple leveraged gold mining ETN products selecting direction based on his analysis of the path of least resistance for the yellow metal to buy gold bars and coins.

Gold continues to move higher and lower with the dollar on a daily basis these days and short-term trends have created profitable opportunities for trading the triple leveraged ETN mining products on a daily basis. DUSY and JDST can magnify results, but keep in mind that magnification causes a wild roller coaster ride with these products.

• NUGT and JNUG for the rallies
• DUST and JDST for the dips

Commodity ETFs 

The most direct route for a risk position in the commodity market is via the futures and futures options on the Intercontinental Exchange.  Alternatively, you can use commodity ETFs as trading options.If you use ETFs as your trading tools, do check out below article:

An ETF Due Diligence Checklist

to help ensure the ETFs you choose best meet your needs.  For example, you need to consider the ETF AUM (Assets Under Management) for its stability or liquidity consideration.  The rule of thumb is:

While particulars vary, $50 million is commonly recognized as a stability point. Plus, greater AUM ➡ greater liquidity.

The below diagram shows an online survey result by State Street SPDR ETFs:

World GDP Growth and Commodity Price Returns

Below picture was tweeted by @GauravSaroliya.  He has also commented that commodity index is 75% oil.

References

1. 5 Reasons Why Commodities Are the Place to Be in 2018
2. While Gold Moves With The Dollar, Leveraged ETN Products Offer Short-Term Opportunities
3. Hong Kong Protests Threaten This 10-Year-Old Bull Market
4. Sugar Suffers From The Brazilian Real
5. Global Oil-On-Water Suggests Q4 2019 Deficit Will Be Massive
6. Central banks' love affair with gold continues as currency wars threaten outlook — ANZ
7. Global Oil-On-Water Suggests Q4 2019 Deficit Will Be Massive
8. Commodities ETFs
9. An ETF Due Diligence Checklist
10. I'm Still Loading Up On Gold And Gold Stocks. Here's Why
11. Copper Will Boom; You'll Regret Not Having Portfolio Exposure
12. UBS’s Billionaire Clients Are Betting on Big Gains From Energy
• Almost half of the super-rich clients the bank surveyed said energy was attractive for future investment returns and business, the most among 21 categories overall, according to a report published on 12/08/2022. About a third of the 50 billionaires polled also viewed biotechnology, pharmaceuticals and software as attractive areas, the Zurich-based firm said. 
13. Strategic Petroleum Reserve (Bloomberg 12/08/2022)
• The potential is there to make the dream trade -- sell high, buy low. It could be a boon to the American driver.