In our previous life managing money for a large private bank, a prominent mutual fund manager was explaining to our group of professional investors how their commodity strategy worked. At the end of the hour long presentation, even the mutual fund managers couldn’t explain the source of returns nor the strategy in basic terms. If a group of CFA charter holders are confused, imagine explaining the strategy to a potential client.
Pure Portfolios does not recognize Commodities as an investable asset class. That’s a fancy way of saying we do not invest in Commodities. Commodity ETFs do a terrible job of replicating the performance of the underlying assets. The Financial Times and Attain Alternative Blog explore the reasons why Commodity ETFs were never meant to be a long term hold, rather a vehicle to speculate on short term movements in the commodity markets.
In this case a picture is worth a thousand words. The below chart shows the wide 2016 performance gap between the respective commodity ETF and the underlying assets futures contract.
Source: Barchart and Yahoo
The reality is there isn’t a clean, direct vehicle for long term investors to gain commodity exposure. Surely, there are many ETFs that track the commodity complex, but they are either expensive and/or do a poor job of mirroring the performance of the underlying asset.
The topic caught my eye because investor flows into Commodity ETFs increased between 2015 & 2016. Since the chart below shows year over year increasing flows (2015 to 2016), we can assume investors are also holding the ETFs longer than the products were designed for. The results have been a drag on multi-asset class portfolio returns. If investors want exposure to commodities, their time horizon should be short (less than one month) or through sector/industry ETFs or individual stocks with strong correlations to commodity price movements i.e. Energy ETFs, airline stocks, gold mining stocks etc.
Source: Financial Times
Pure Portfolios performance should benefit by not including inefficient and expensive asset classes like commodities and hedge funds. We call those “academic” asset classes, they look good in finance textbooks but are likely value destroying in practice.