After all the fuss made of futures-based commodity exchange traded funds (ETFs) and contango issues, you might be wondering if commodities have a role in your portfolio. For the answer, read on.
Commodities enjoyed a stunning run-up in the first part of this decade, heightening their appeal with all types of investors all over the world. And that’s with good reason, because commodities have a number of benefits and can do good in a portfolio, according to Christine Benz for Morningstar. This includes:
- Commodities have a relatively low correlation with traditional asset classes like stocks and bonds.
- This diversification can improve a portfolio’s risk/reward profile, despite the volatility seen in commodities at times. [Oil and Gas Feel the Push/Pull.]
- Commodities can provide at least some protection against inflation. As the prices you pay to buy food and put gas in your car move up, holding at least a portion of your portfolio in commodities–the prices of which would also be rising at that time–can help you benefit from higher prices. [Commodity Currencies Get An ETF.]
What has been happening with energy, though, underscores how the fortunes in commodities can turn on a dime. Jonathon Bernstein for ETF Zone notes that despite being one of the most profitable sectors in the last decade, the energy sector has had a challenging year.
A number of factors have hit the sector: the BP oil spill, a ban on offshore drilling and the possibility of new taxes and restrictions have created uncertainty for ETF investors.
Commodities can move quickly and what was hot this month may not be next month. Here are a few ways to invest in commodities while coping with risk:
- Have a strategy. We use the 200-day moving average and have a stop loss of 8% off the high or when it goes below the 200-day. Having a firm point at which you sell helps protect you on the downside. Read more about trend following here.
- Use leverage. If you’re not afraid of risk and you understand how they work, consider leveraged or inverse commodity ETFs to give your portfolio some protection or oomph. According to the ETF Analyzer, there are about 30 such ETFs available.
- Consider the options. There are three basic types of commodity ETFs: equities, futures and physically backed. Learn them, study them, then choose the one that’s right for you and your situation.
Tisha Guerrero 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.