More investors are turning to exchange traded funds as an easy way to access commodity market moves. As the commodity ETFs grow in size, the funds are beginning to play a larger role in commodity price formation.
In a recent Société Générale note, Mark Keenan, head of commodity research Asia, and Dr. Michael Haigh, global head of commodities research, argue that recent exchange traded product, which include both ETF and exchange traded note, flows have affected the prices of underlying commodities.
The recent surge in oil ETP flows were enough to support oil prices as they fell, or cushion the recent fall as more investors jumped onto oil ETFs in a bid to catch the falling knife.
“We estimate a 20% decline ($9) in oil price increases flows into ETPs (long) by 114 percent,” according to Société Générale. “These flows result in oil prices rising almost $3, offsetting some of the initial decline. If ETP flows remain elevated and increase in popularity, their impact on the oil price formation may be significant and warrant closer tracking, as one does with managed money net length.”
For instance, while United States Oil Fund (NYSEArca: USO), which tracks West Texas Intermediate oil futures, fell 11.2% over the past three months, USO still added $862.4 million in new assets over the third quarter. [Enthusiasm for Oil Wanes]
However, Société Générale also found that outflows typically rise when prices rise, which is not too surprising as short-term traders will typically engage in the time-honored tradition of profit taking.
“ETP inflows (and outflows) are a moderating influence on price decreases (and increases),” Société Générale said.
However, ETF moves may be seen more as a reaction, instead of a direct cause of the price movements. As large and professional traders buy the dips and sell the highs, the futures-based ETPs may also help smooth out volatility in the energy market.