What is an ETF? — Part 24: Commodity Producers
September 11th 2012 at 5:00pm by Tom Lydon
Exchange traded funds continue to increase in number and popularity, growing to one of the most commonly traded securities on the stock exchange as both institutional and the average retail investor gain greater access to broad or specialized market exposure. Yet many individuals are unfamiliar with ETFs’ inner workings. In this ongoing series, we hope to address your questions and help shed light on the investment vehicle. [What is an ETF? — Part 23: Backwardation and Contango]
Investors interested in gaining exposure to the rising demand and prices for raw goods may also consider commodity miner and producer ETFs.
Like other equity ETFs, equity-based commodity ETFs hold a basket of metals miners or commodity producers. These funds do not track a commodity’s spot price movements. [What is an ETF? — Part 22: Commodities]
While not directly exposed to the underlying commodity movements, the producers’ fortunes are still based on how well the commodity prices are doing. The performance of these companies is not always correlated to their underlying commodity, but they will be better positioned to perform when prices are up.
Additionally, companies also hedge their exposure to commodity price oscillations by using futures contracts to lock in prices.
In the case of some commodities, equity-based commodity ETFs may be the only way to gain exposure to the assets in an ETF form. For instance, there are no physically-backed or futures-based uranium ETF, but investors can access a uranium producers ETF instead.
Nevertheless, stock-based commodity ETFs still cover individual companies. Like any other company, firms can have things go wrong. Mismanagement, corruption, environmental disasters, labor strikes and lawsuits can have an impact on the bottom line.
Other external factors may also affect the performance of the mining company, such as new discoveries of the commodity or new tax laws.
On the other hand, commodity producers can just as likely make savvy business decisions, benefit when new mines are discovered, raise dividends, cut costs or boost profits.
For past stories in this series, visit our “What is an ETF?” category.
Max Chen contributed to this article.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.