IFA Guide to Commodities
Commodities are a very diverse set of assets in their own right, ranging from orange juice through to copper, gold and oil. As with many alternative investments, commodity price movements have generally been non-correlated to the more traditional financial instruments such as equities or bonds, so a commodity investment can provide important portfolio diversification.
Commodity mechanics
The diversification benefits of an allocation to commodities have been known for some time in the institutional world but poor results and volatility from equities and bonds, together with a rising market in commodities, have once again sparked interest in this asset class.
The price of gold for instance has rocketed in value since 2008, with gold being the natural safe haven in times of economic turbulence and volatility.
The downside to this wide diversification is that it would be difficult, even for a professional investor, to become expert in all commodity and natural resource fields. Most retail investors will trust to the judgement of fund managers to select an appropriate percentage to allocate to their portfolios and to decide where the commodity focus should lie. In turn, fund managers will tend to use collectives and exchange traded products (ETPs) to gain exposure to this asset class.
There are Open Ended Investment Company (OEIC) funds specialising in commodity investment, although due to their very diverse nature the IMA has no dedicated sector for them, with any funds being listed in the specialist sector. These funds tend to invest in securities that benefit from increases in commodity prices rather than the commodity prices themselves. For instance, a proxy for gold would be gold mining shares.
Client need
While an adviser or investor may have a firm view on one or two commodities such as gold or even oils, because of the very diverse nature of commodities as an asset class, the retail investor would be well advised to gain access through a managed fund, leaving the decision-making to the experienced fund manager.
Funds listed on our research and selection tool, Defaqto Engage, are outlined in table 5. Retail investors and to a certain extent fund managers and institutional investors stick to these managed funds. Advisers should therefore check the aims and objectives of each fund to see where the focus lies.
There are also ETPs that specialise in commodities and these can directly follow the price of the commodity by tracking an index. This index could simply be the price of a commodity in the market or reflect the price movement of a diversified basket of commodities. Again, it is sensible to examine exactly what you are buying and where your investment is being made.
For further details on Alternative Investment download a copy of the Defaqto Guide to Alternative Investments at DefaqtoAdviser