Exchange traded fund investors seeking to diversify a traditional portfolio mix should consider the outlook for commodities and the fundamentals underlying the need for a longer-term, strategic allocation.
In the recent webcast, Commodity Investing: Past, Present, and Future, Stan Kiang, Director of Strategic Accounts, Aberdeen Standard Investments, highlighted the benefits of commodities as an uncorrelated asset to traditional stock and bond exposures. For instance, the broader commodities category exhibits a correlation of just a little over 0.3 to the S&P 500, where a 0 reading corresponds to no correlation and a 1 reading corresponds to a matching correlation. Commodities also show a correlation of just a little over 0.0 to the Barclays U.S. Aggregate Bond Index.
Further adding to the diversification benefits of the asset class, many of the individual commodities may exhibit low correlation to one another. The commodities asset class also comes with lower volatility, with the broader Bloomberg Commodities Index exhibiting a 16.12% 20-year annualized volatility, compared to the 19.72% in the S&P 500 Index.
Robert Minter, Commodities Investment Strategist, Aberdeen Standard Investments, also argued that the change in the Federal Reserve’s policy framework could drive inflation higher and improve the demand for hard assets like commodities as a hedge against inflationary pressures. The Federal Reserve recently stated it would allow inflation to float above its 2% target to offset the previous years of inflation running below its target level.
Looking ahead, Minter believed commodities could continue to track inflation surprises as they have done so in previous instances. Additionally, commodities tend to perform best in a rising growth environment, coupled with high inflation.
The various commodities sectors enjoy their own unique supports. Minter indicated that the near-zero interest rate policies have pushed investments into uneconomic places, contributing to over-investment in energy by public and private markets. However, a reversal of capital trend, mass consolidation, scarcity of capital, and fairy tale renewable expectations may raise prices, along with returns.
In the agriculture commodities space, Minter argued that extreme weather may contribute to spikes and more resistant seeds may raise yields. Meanwhile, the non-GMO trend, very old demographics of U.S. farmers, global consolidation of farms, and lower USD could all support agriculture markets.
The industrial metals segment has exhibited a better history than other sectors as it has been faster to react to price. The shift of production toward ex-China areas means price of industrial metals may rise to generate higher production. Additionally, the segment may be helped by pro-environmental policies, even if they fall short of expectations.
The livestock market has been dominated by news of trade wars and mad cow disease that lowered trade and increased restrictions. Disease in China may mean that they will need all sources of production, and it will likely take 3 to 5 years to replace the hog herd in China lost last year.
Minter highlighted the unique supply demand dynamics that continue to support precious metals prices going forward. Specifically, easy monetary policy and fiscal stimulus appear to be driving consumption higher. Meanwhile, metals may be key ingredients for current and emerging themes, such as CO2 emission control through palladium and platinum in autocatalysts, energy transition through platinum and silver, anti-bacteria properties found in silver, and the ongoing flight to safety through traditionally bets like gold and silver.
Consequently, Kiang argued that there is a strong commodities investment opportunity with both tactical and diversification stories intact. Commodities have low correlation to other asset classes. Historically, commodities have tended to track inflation surprises and perform well in rising growth environments. Additionally, structural tailwinds are creating a potential inflection point for all commodity sectors.
Investors interested in diversifying their portfolios with broader commodities exposure also have a number of ETF options available to them. Aberdeen Standard Investments offers a line of ETFs to outperform the widely observed Bloomberg Commodity Indices, all without the need to worry about troublesome K-1 forms come tax season. These funds include the actively managed Aberdeen Standard Bloomberg All Commodity Strategy K-1 Free ETF (NYSEArca: BCI) and Aberdeen Standard Bloomberg All Commodity Longer Dated Strategy K-1 Free ETF (NYSEArca: BCD).
BCI tries to provide long-term capital appreciation that exceeds the performance of the Bloomberg Commodities Index. It may not invest in all the components of the benchmark but will hold similar interests to those included in the index, along with short-term investment-grade fixed-income securities, money market instruments, certain bank instruments, and cash or other cash alternatives. The underlying Bloomberg Commodities Index tracks the price of rolling positions in a basket of commodity futures with a maturity between 1 and 3 months.
BCD tries to provide long-term capital appreciation that exceeds the performance of the Bloomberg All Commodity Index 3 Month Forward Index, which tracks movements in the price of rolling position in a basket of commodity futures with a longer maturity between 4 and 6 months.
Investors who want to access precious metals may also consider several physically-backed metals-related ETFs as a way to diversify a traditional portfolio mix, including the Aberdeen Standard Gold ETF Trust (SGOL), Aberdeen Standard Physical Silver Shares ETF (SIVR), Aberdeen Standard Physical Platinum Shares ETF (NYSEArca: PPLT), and Aberdeen Standard Physical Palladium Shares ETF (NYSEArca: PALL). Additionally, the Aberdeen Standard Physical Precious Metals Basket Shares (NYSEArca: GLTR) acts as a metals catch-all. It boasts a mix of gold, silver, platinum, and palladium.
Financial advisors who are interested in learning more about commodity investments can watch the webcast here on demand.