Monday, March 25th, 2013


Is the great commodity boom over? Do commodities play a valuable role in diversifying portfolios? Are there sensible strategies to capture some of the upside even if the underlying asset is too volatile? There are just some of the questions which this blog does not have space to answer. We confine ourselves to a simple topic: what to do with the asset class and related plays at the current time.

The problem for commodities can be triangulated through a variety of models. Our multi-asset model currently has an exposure of 1% to commodities. The average for the last 52 weeks is 5%, which is easily the lowest of the main asset classes. The next lowest asset class (US Treasuries) has an average of 11%. In our US and Pan-European sector models, the materials sector ranks number 7 out of the 10 industry groups, and would be lower still were it not for the strength of the chemicals sector, which is also included in this group.

Looking at individual countries, most of the classic commodity plays (South Africa, Brazil, Peru, Russia and Canada) are in the bottom quartile of our country ranking. This comprises 44 developed and emerging markets all tracked in terms of return per unit of risk in US dollars. Most of them have been in the bottom quartile for at least the last two months.

None of the above means that commodities cannot stage a rally starting tomorrow. However our belief is that this would most likely be a high beta, bottom-fishing rally, driven by a feeling that they had been oversold in the short term. This would almost certainly lead to a significant increase in volatility, which would make the risk-adjusted returns relatively unattractive. There is little sign of a new, risk-efficient bull market starting anytime soon.

We will happily invest in commodity-related markets and sectors when our models suggest it is appropriate. But we should be clear that these are tactical calls. We will be equally happy to follow them when they suggest that exposure should be low, as is the case at the moment. Good strategic outcomes are rarely achieved by pursuing diversification at the expense of the basics of risk and return as they are delivered.

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