Commodities and equities are two distinct asset classes, but there are times when members of the former can prove instructive about what’s in store for the latter.
For many investors, pinpointing when and which commodities will deliver stock market clues is difficult, and understandably so. That stands to reason because many market participants are under-allocated to commodities in the first place. However, the Invesco DB Commodity Index Tracking Fund (NYSEArca: DBC) not only fills the broad commodities allocation void; some its components can provide valuable equity market insight.
The $2.46 billion DBC follows the DBIQ Optimum Yield Diversified Commodity Index Excess Return Index.
The ETF, which is just over 15 years old, “is designed for investors who want a cost-effective and convenient way to invest in commodity futures. The Index is a rules-based index composed of futures contracts on 14 of the most heavily traded and important physical commodities in the world,” according to Invesco.
A Deep Dive on ‘DBC’
As noted above, DBC provides exposure to 14 heavily traded commodities. Its current lineup is arguably tailor-made for an environment of rebounding economic activity. Gasoline, West Texas intermediate, and Brent crude combine for over 41% of DBC’s roster.
Another key component is the fund’s 10% weight to copper, an industrial metal long believed to provide clues about economic activity.
“Although equities and copper have tended to correlate positively over the past four decades, and especially so during the past 20 years, they perform very differently in different environments,” writes CME Group Executive Director and Senior Economist Erik Norland.
As Norland points out, copper topped equities in the late 1970s when inflation was running hot. This year, conventional wisdom seems to hold that inflation will be transitory, but it’s coming nonetheless. Copper could be in for a few months of above-average performance.
Of course, it’s not just the U.S. where copper can prove instructive. Investors considering emerging markets, particularly to China, should consider carefully monitor prices of the red metal.
“Over the past 16 years, copper prices have shown a strong positive correlation to both Chinese GDP,” adds Norland.
China consumes up to half the world’s copper output on an annual basis. Another reason DBC’s copper exposure could be advantageous is taper talk. If the Federal Reserve backs off quantitative easing, long-term bond yields could jump higher, pressuring equities in the process. As Norland points out, that scenario could be a positive for industrial metals.
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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.