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Commodities diversification: is it worthwhile?

Useful asset classes are low cost, readily understood, easily tradable, and exhibit one or more of the following characteristics:

  • A long-term track record of delivering positive real returns
  • Diversifying properties that lower your portfolio’s overall risk
  • Can protect your wealth during bouts of inflation or deflation
  • Investable using accessible, liquid, low-cost index-tracking funds or ETFs.

By those criteria, commodities are a shoo-in.

Now let’s dive into the difference that commodities diversification has made to UK investment portfolios.

Many happy returns

The chart below shows how various 60% equity portfolios performed when diversified with varying commodities allocations. The latter’s share ranges from 0% to 40%:

Data from Summerhaven1, S&P GSCI TR, BCOM TR, JST Macrohistory2, JP Morgan Asset Management, The London Bullion Market Association, Measuring Worth and FTSE Russell. June 2023.

As the cyan line shows, the portfolio without commodities – the regular old 60/40 equities/gilts portfolio – comes dead last. Even more shockingly, the 60/40 equities/commodities portfolio leads the pack.

What gives?

Investing returns sidebar – All returns quoted in this piece are real annualised total returns. That is, they’re the average annual return (accounting for gains and losses) realised in a given time period. These returns include the impact of reinvested dividends and interest, but strip out the vanity growth delivered by inflation that does nothing to boost your actual spending power. Dollar returns for commodities have been converted to GBP.

How an allocation to commodities improves portfolio diversification 

The tables below show the difference commodities diversification makes in greater detail for passive investment portfolios.

We look at annual returns from 1934-2022, because this is the longest time period we have investable commodity data for. 

60% equity portfolios and commodities diversification

The engine of each portfolio is 60% UK equities. Diversification is provided by various allocations to government bonds (gilts), commodities, cash, and gold, as shown in the next table.

I’ve also included a 100% equities portfolio for comparison. Each portfolio is rebalanced back to its target asset allocations at the end of each year.

  60/40 e/b 60/30/10 e/b/c 60/20/20 e/b/c 60/10/10/10/10 e/b/c/ch/g 60/40 e/c 100 e
Annualised return (%) 4 4.6 5.2 4.7 6 5.4
Best return (%) 66.4 61.7 56.9 55.4 47.3 103.4
Worst return (%) -45.1 -38.7 -32.4 -29.3 -25.6 -57
Volatility (%) 14.8 14 13.7 12.8 14.5 20.7
Sharpe ratio (%) 0.27 0.33 0.38 0.37 0.42 0.26

e = equities, b = bonds, c = commodities, ch = cash, g = gold 

The portfolio with the best annualised return is the 60/40 equities/commodities mix. This asset allocation even beats 100% equities into a cocked hat. 

Moreover, the 60/40 commodities-diversified portfolio earns a superior return with considerably less whipsaw volatility than its 100% equities rival.

I’ve used the Sharpe ratio to measure the risk/reward trade-off. The higher your Sharpe ratio, the better your risk-adjusted returns. Or, the more return you get per unit of risk as measured by volatility3

The 60/40 equities/commodities load-out has the highest Sharpe ratio in the table. That makes it the most rational portfolio of the set, if you believe that investors should choose the portfolio which offers the greatest return for a given level of volatility. 

The worst return row further demonstrates that high commodities allocations have mitigated some of the UK’s severest investing tests of nerve on record. 

Meanwhile the least volatile portfolio also happens to be the most diversified: 10% bonds, 10% commodities, 10% cash, 10% gold.

But that stability was achieved at the expense of return, compared to portfolios with higher commodity allocations. 

Curb your enthusiasm

On the face of it, ditching gilts4 for commodities led to a better outcome on every metric: whether that be average returns, volatility, or the Sharpe ratio.

But I’m not selling my bonds yet. I’ll explain why shortly.  

It’s also fair to say 100% equities doesn’t look worth the risk. The same would be true if we substituted global returns for the UK stock market, incidentally.5

In contrast, the better diversified 60/20/20 portfolio experiences much lower volatility than 100% equities. And it achieves much the same return.

80% equity portfolios and commodities diversification

  80/20 e/b 80/10/10 e/b/c 80/20 e/c
Annualised return (%) 4.7 5.4 5.9
Best return (%) 84.9 80.1 75.4
Worst return (%) -51 -44.7 -38.4
Volatility (%) 17.6 17 16.7
Sharpe ratio (%) 0.27 0.32 0.36

e = equities, b = bonds, c = commodities 

Once again, the key metrics improve as gilts are elbowed out of the portfolio by commodities. 

Notice though, that while 80/20 equities/bonds is better than the comparable 60/40 portfolio, 80/20 equities/commodities is worse than 60/40 equities/commodities. Especially in terms of the risk-reward ratio.

The mildly negative correlation between commodities and equities reduces volatility, and also generates a rebalancing bonus.

There was no need to keep upping the equity ante in pursuit of return when commodities were part of your portfolio mix over this particular timeframe.

Intriguingly, commodities’ long-term return was lower than equities from 1934-2022. But the two assets combined, outstripped equities alone. 

50% equity portfolios and commodities diversification

  50/50 e/b 50/30/20 e/b/c 50/50 e/c
Annualised return (%) 3.5 4.7 6
Best return (%) 57.2 47.6 34.3
Worst return (%) -42.1 -29.4 -23.9
Volatility (%) 13.7 12.3 14.4
Sharpe ratio (%) 0.26 0.38 0.41

e = equities, b = bonds, c = commodities 

The synergism between commodities and equities comes to the fore again with a 50/50 asset allocation. 

I have to counsel though that we can’t necessarily expect the two assets to play together quite so nicely in the future. That is why I don’t advocate ditching bonds. 

Rounding error fans should note that the 50/50 equities/commodities portfolio actually achieved a 5.96% annualised return versus 6.04% for 60/40 equities/commodities. That’s why the latter portfolio has a slightly higher Sharpe ratio. 

Interestingly, the 50/30/20 lock-up delivers the lowest volatility so far, along with a highly respectable annualised return. 

But if limiting the downside is your thing, just wait until you see the Permanent Portfolio results.

The Permanent Portfolio, but replacing gold with commodities

  25/25/25/25 e/b/ch/g 25/25/25/25 e/b/ch/c
Annualised return (%) 2.6 3.5
Best return (%) 21.2 20.5
Worst return (%) -11.4 -15.4
Volatility (%) 7.7 8.4
Sharpe ratio (%) 0.34 0.42

e = equities, b = bonds, c = commodities, ch = cash, g = gold 

The first column shows the standard Permanent Portfolio formulation of 25% equities / 25% bonds / 25% cash / 25% gold. This all-weather blend is hailed for its low volatility, wealth-preserving qualities. But its low long-term returns make it hard to recommend for most. 

Our second column swaps out gold for commodities. Now volatility rises just a smidge, but a significantly higher annualised return helps the portfolio to a 0.42 Sharpe ratio.

That’s the equal of anything else we’ve looked at today. Go tell the gold bugs!

When do commodities work?

The answer to this question explains why I won’t be swapping all my bonds for commodities (although I probably will exchange some).

Commodities have tended to work best during periods of economic expansion and rising inflation. See this table from the research paper Commodities for the Long Run by Levine, Ooi, Richardson, and Sasseville:

A table showing that commodities work best during conditions of rising inflation and/or economic expansion

Excess returns in USD for an equal-weighted commodities index.

The table also shows that commodities typically underperform in recessionary and falling inflation rate environments. 

Note, the table traces broad trends, but it isn’t saying commodities will automatically perform on cue.

For example, commodities added to investor’s woes during the Global Financial Crisis and the Great Depression. But they were a healing balm during the Dotcom Bust and 1972-74 oil shock (the latter a hideous stagflationary amalgam of economic torpor and galloping inflation). 

Think different

As passive investors we shouldn’t be tactically trading commodities every time there’s a recession warning. We’re interested in the strategic benefits each asset class can bring to our portfolio.

So it’s good to know that the findings above are also confirmed by other researchers who’ve investigated long-term commodity returns. These include Bhardwaj, Rajkumar, and Rouwenhorst (see The Commodity Futures Risk Premium: 1871–2018), and Dimson, Marsh, and Staunton (see the Credit Suisse Global Investment Returns Yearbook 2023). 

To that we can add Monevator’s findings about the unpredictable performance of diversifiers in UK investment portfolios in part two of this series.

On that measure, commodities improved portfolio outcomes 58% of the time when equities retreated, but actually made matters worse in 42% of downturns. 

To sum up our diversification dilemma: government bonds defend against recessions. Commodities typically don’t. 

And commodities are a partial hedge against inflation, whereas nominal bonds most definitely are not. 

That’s why I want both asset classes in my portfolio. 

What should my commodities asset allocation be?

Now you’re asking.

The optimal asset allocation can only be known in retrospect, because it’s dependent on unknowable variables.

Think future returns, the future correlation of asset class returns, and your particular blend of assets. 

Various sources offer a future expected excess return for commodities of 3%, so we might expect a 3.5% to 4% total return.

But expected returns are to be taken with a pinch of salt. 

Dimson, Marsh, and Staunton explain why nailing the right asset allocation is like trying to pin the tail on a donkey:

The optimal allocation to futures depends on the investor’s tolerance for risk. For an investor who was comfortable with the risk of a 60:40 equity: bond portfolio, they [Erb and Harvey] show that the optimal allocation would be 18% in commodity futures, 60% in stocks and 22% in bonds. Unsurprisingly, the optimal allocation to futures depended on the expected excess returns. With an expected excess return of 1%, the optimal allocation to futures fell to 3%.

Vanguard’s take is that a future optimal commodities asset allocation could lie anywhere from 0% to 15%. That’s according to its paper Commodity Investing and its Role in a Portfolio

But Vanguard’s base case scenario suggests an allocation to commodities of less than 5%, which is almost as good as saying: “don’t bother.”

Stock puppets

At this point, you might be throwing up tour hands and thinking, “I’ll just get my commodities exposure through commodity stocks.”

Sadly, Dimson, Marsh, and Stauton cite evidence that this won’t work:

…investors may also gain exposure to commodities through their equity investments, e.g. in mining, energy and agriculture-related stocks. GR [Gorton and Rouwenhorst] investigated this by comparing the performance of commodity futures with commodity company stocks. They concluded that the latter behaved more like other stocks than futures. They were not a close substitute. 

Commodity of errors

As you can probably tell, there’s no right answer. But returning to our original criteria for an investable asset class, let’s review the positive case for commodities:

  • A long-term track record of delivering positive real returns? Yes!
  • Diversifying properties that lower your portfolio’s risk? Yes!  
  • Can protect your wealth during bouts of inflation or deflation? Inflation, sometimes
  • Investable using accessible, liquid, low-cost index-tracking funds or ETFs? Yes!

The fail for broad commodities ETFs is they are not readily understood (albeit you could argue the same is true for bonds and gold).

On those grounds, plus the imperative to keep things as simple as possible – but no simpler – I wouldn’t blame anyone for saying, “Thanks, but no thanks,” to commodities. 

However, for an engaged passive investor like myself, I believe the case for commodities is compelling. Assuming I can find the right passive fund to invest in, of course. I’ll report back on this in part five of our series. 

But none of this means I won’t be unlucky. The optimal allocation to commodities could be zero during my investing lifetime. But I can only know that after the fact. That’s investing risk for you. 

Coming around to commodities

Here’s where I am at…

Equities have a higher long-run risk premium than commodities and so should be the portfolio mainstay. 

There’s a clear rationale for why commodities should be able to deliver a reasonable rate of return in the future, but nothing is guaranteed. 

Commodities are an attractive strategic diversifier due to their historically low correlation with equities and bonds.

The limits of a vanilla 60/40 portfolio were hammered home as if by a hammer-wielding maniac by the events of 2022. And we’ve previously deep-dived the benefits of a more diversified portfolio

I’m particularly keen on not being solely dependent on my bonds for diversification – just in case we’re on the wrong end of a rising interest rates bond super-cycle. 

I’d also like to be less reliant on equities for growth. Multi-decade bear markets can affect this asset class, too.

So the fact that commodities deliver good long-term returns and offer some insulation from inflation is another big tick for me. 

I’m also a fan of owning every useful asset class in reasonable amounts. 

Less than 10% in commodities appears to me next to irrelevant, but I don’t think I’m brave enough to own 20%. 

I haven’t fully made up my mind yet. It’ll depend on how convincing I find the available broad commodities ETFs once I’ve completed my research into those. 

Either way, I’ll probably ease my way into commodities slowly. Perhaps 5% of the portfolio at a time, over the course of a year or so.

In the meantime, I want to dig into how well commodities stack up as an inflation hedge for UK investors. So that’s next in the series. (Subscribe to ensure you see it.)

Take it steady,

The Accumulator

  1. Bhardwaj, Geetesh and Janardanan, Rajkumar and Rouwenhorst, K. Geert, “The First Commodity Futures Index of 1933,” Journal of Commodity Markets, 2020. []
  2. Òscar Jordà, Katharina Knoll, Dmitry Kuvshinov, Moritz Schularick, and Alan M. Taylor. 2019. “The Rate of Return on Everything, 1870–2015.” Quarterly Journal of Economics, 134(3), 1225-1298. []
  3. i.e. annualised standard deviation []
  4. UK government bonds. []
  5. We can’t get global equity returns before 1970. And the UK stock market’s longer track record enables our comparison to encompass a wider range of economic conditions. But UK returns are broadly in line with global returns and are probably a better benchmark than exceptional US returns that may not be repeated in the future. []
{ 21 comments… add one }
  • 1 BBBetter June 27, 2023, 5:49 pm

    What is the correlation between gold and commodities? How would an all-weather portfolio look like if cash was replaced with commodities?

  • 2 Hariseldon June 27, 2023, 6:42 pm

    Ignore commodities is my take, look at the long term graph used. Look at the gap between the lines, commodities had shown outperformance by the mid 70’s, go from there to now, the gap has closed. It has been negative over the last 50 years.

    The Accumulator is going off bonds because interest rates might be rising over the long term. That’s actually good news, not bad news, they are going to pay more in the future, you will reinvest coupons at higher rates.

  • 3 cm258 June 27, 2023, 7:20 pm

    Insightful as always.

    Taking a similar approach around slow entry in.

    Have gone with an allocation of 2.5% iShares Physical Gold ETC and 2.5% Invesco Bloomberg Commodity ETF.

    This goes alongside 20% iShares Global Government Bond ETF and 75% Vanguard FTSE Global All Cap fund.

    Only time will tell!

  • 4 Naeclue June 27, 2023, 10:14 pm

    Fascinating stuff @TA. I am only reading via my phone and with a very unreliable signal, so apologies if you have already spelled this out, but the questions I have are 1) is this an investable commodities index that you are talking about (ie not one based on spot prices) and 2) how well have ETFs/ETNs done in tracking the index?

    These details may of course be coming later…

  • 5 Bogdan June 28, 2023, 6:41 am

    As usual yet another brilliant article, exploring this fairly unknown asset class. I’m interested to see how a global porfolio of stocks and maybe bonds performs when commodities are added, as the article only includes portfolios with UK stocks and gilts.

  • 6 The Accumulator June 28, 2023, 9:15 am

    @ BBBetter – correlation between gold and commodities is 0.37. Suspect if you take cash out then the portfolio is more volatile but with higher returns. Would be less all-weather though.

    @ Hariseldon – the 50-year real return for commodities is 2.55%. Not awesome but positive and the real win is the diversification benefits. I’m surprised to hear you say I’m going off bonds. I’ve consistently defended them and written a series of posts, even as bonds were being pounded in 2022, to try and explain when bonds work and when they don’t. I don’t advocate ditching bonds for commodities. I advocate understanding the strategic role of each useful asset class. Commodities compensate for some of the weaknesses of bonds as a diversifier.

    @cm258 – I think your slow entry idea is absolutely on point. That’s how I intend to handle it too.

    @ Naeclue – yes, investible index i.e. commodities futures, and not an academic equal-weighted index either. I’m researching ETFs at the moment but the Bloomberg commodities trackers have matched the index surprisingly well. The index shown here segued into the Bloomberg index in the 90s.

    @ Bogdan – Thank you! I’d prefer to use global equities but data is only publicly available from 1970, so not a long enough timeline really. UK equities and global are highly correlated so I think the outcome would be pretty similar.

  • 7 George June 28, 2023, 10:24 am

    An interesting article, thanks.

    Toying with the idea of selling some Vanguard Lifestrategy 100 and putting it into a commodities ETF, probably also with Vanguard for simplicity… (I also have VLS 80, and probably don’t need 100 as well).

  • 8 Algernond June 28, 2023, 4:09 pm

    I’d be scared giving a fixed allocation to Commodities.
    Sacrilegious to the passive investing community I know, but I started implementing an ETF momentum strategy in ~ 40% of my SIPP/ISA portfolio early last year (chooses between various Stock, Bond, Commodity, Money Market ETFs). When I began, ~1/2 of it was in a broad commodity ETF (BCOG) which I’d swapped for most of my bond allocation in 2021; that turned out to be rather fortuitous. Then in November las year, my newly implemented ‘Algo’ told me to sell it and go back into Stocks, so currently I have zero allocated to Commodities. Turned out to be really good timing; too early to tell if this strategy will be be beneficial long term though…
    Anyway, the impression I get is that Commodities are good for Momentum / Trend Following type strategies, but maybe not for fixed allocation purposes.

  • 9 Time like infinity June 28, 2023, 7:44 pm

    Thanks @TA. Thought provoking. Looking forward to finale.

    @Algernond #8: I’m momentum obsessed & hoping will be covered in Mogul articles IDC. Would you be willing to share your sector rotation strategy & thinking behind implementation on comments thread to Monevator’s momentum piece (Oct 14)?: https://monevator.com/momentum-premium/

  • 10 Brod June 28, 2023, 9:05 pm

    Thanks for this, TA. Really interesting and considered.

    I’ve got Cash, Short Term Inflation Linked Bonds (GIST/GISG) and Gold as my defensive selection. I’ll wait for the last two instalments but I might swap the cash and half GIST/GISG to get 10% commodities and 5% LT Bonds. That should give me something for everything, I hope.

    Arguably, my state pension and equal-ish DB pension, which should cover our essentials, means I don’t need fixed income, but FI, Gold and Commodities makes the ride smoother and doesn’t seem to affect returns much at all.

  • 11 Meany June 28, 2023, 11:38 pm

    The commodities indexes mostly include some gold, around 12%.
    Is this the same “stuff” held by the gold-only ETCs?
    (perhaps it is futures of particular lengths that somehow give it slightly
    different investment properties?).

    Here’s the thing that bothers me about commods, though:
    If a new huge business destroys a bunch of established co’s it will replace them in the S&P and I automatically get their shares. Fine!
    But if a new major base material or energy source comes into play, it might not appear in the commod index properly proportioned. Or it might be ridiculously cheap (e.g. a plant that grows the commod), so commods become a smaller cost to business. Don’t we need a guarantee that investable commods have to stay some% of business costs to make them
    stay important at a fixed allocation?

  • 12 Algernond June 29, 2023, 11:03 am

    @Time like infinity – will do this weekend!
    (I should probably join Moguls – will there be articles on Momentum/Trend Following @TI ?)

  • 13 Algernond June 29, 2023, 1:31 pm

    @TA – Was insinuating above that the long periods of poor performance from Commodity ETFs makes using them for fixed asset allocation too painful at times.

    Can be interesting to implement a commodity trend-following strategy in a spread-betting account though (Tax Free!). Not talking about day trading here; I mean using long-term trend data to hold positions for weeks or months.

    (I only have paper trading account at the moment which seems to be doing OK, but think I am pretty close to putting some real money in)

  • 14 The Accumulator June 29, 2023, 2:08 pm

    @ Meany – a broad commodities ETF will hold gold futures whereas an ETC should be backed by physical gold.

    Re: the future of commodities. Remember that the bulk of excess returns are due to roll returns rather than the spot price i.e. from the trading of futures contracts. Unlike with gold, long-term returns here are not relying on the spot price of broad commodities to keep on rising.

    Also the indexes do change: replacing uneconomic contracts with contracts for new commodities where investors can make a return.

    Re: equities being immune to creative destruction. It’s possible to imagine a privately held company stealing the lunch of stock-market listed competitors without contributing anything to the return of an index like the S&P 500 (because they haven’t gone public). Imagine a scenario in which an unlisted company makes an AGI breakthrough.

    I’m not saying it’s likely but asset class return premiums aren’t guaranteed.

    @ Algernond – any asset is susceptible to remaining underwater for decades in real terms. For example: https://monevator.com/bond-market-crash/

    Cash, gold and equities have suffered multi-decade down periods too.

    We have to be realistic about risk – there’s no avoiding it.

    I think the thing I’d like to emphasise about commodities is that they’re particularly likely to suffer during recessions and disinflationary periods.

  • 15 Martin Percival June 30, 2023, 12:35 pm

    Another thought provoking article! Just when I think I’ve got my strategy sorted out you come along with something new to add to the thinking 🙂

    I’ve been very much taken with the ERN idea of a glidepath (from more bonds to fewer) in a 60:40 setup, which seems to smooth the challenge of sequence of returns in the early years of retirement – especially in years like 1929, 2000 etc.

    You’ve got me wondering if the bonds element should fade a bit into commodities as well as equities…..especially when rates may be turning down sometime soon (hmm, maybe wishful thinking) thereby gaining from the bonds early on, while moving into coms for the longer term.

    More modelling needed, so thanks for the food for thought.

  • 16 talexe June 30, 2023, 4:05 pm

    Forgive me for a naïve question!

    The passive investing resources I have previously read and relied upon, including this blog, have generally advised against including commodities. Factors I remember off the top of my head include long stretches of poor performance with high volatility, and a relatively small investable market compared to equities and bonds.

    What has changed? Presumably not the long-run performance data.

    Is it possible that – psychologically – we have been influenced too strongly by 2022, and that a simple portfolio of global equities +/- minimal risk asset remains appropriate for most investors?

  • 17 The Accumulator June 30, 2023, 4:44 pm

    @ Talexe – I think it’s a good question. What put me off previously was:

    – Data showing poor long-term performance twinned with high volatility.
    – Reports that broad commodities ETFs could be front-run by savvy active investors because they traded too mechanically.
    – The psychological impact of seeing commodities suffer a terrible bear market from 2008 – 2020.

    What’s changed?

    The emergence of much longer-run performance data showing commodities have, on average, performed creditably over time. (Previously I’ve only seen data going back to the 1970s or late 1950s).

    Commodities haven’t matched equity returns but have done better than other diversifying asset classes. Moreover, they tend to diversify against a different range of conditions than the others – though some overlap with gold.

    That doesn’t change the fact that commodities can still underperform for a long time:
    (See this link for the long-term return data).

    But show me an asset class that doesn’t.

    Multiple research teams have surfaced longer-term returns for the asset class and also provided better explanations of the economic drivers of those returns. I’ve linked to the papers in the various posts in this series.

    2nd generation commodities ETFs have apparently solved some of the problems of the 1st generation ETFs that traded too mechanically. In fact, I think these problems were over-stated as the 1st generation BCOM ETFs track their index pretty well. The 2nd generation ETFs do better though. Post to come on that.

    re: small investable market. That’s true but no-one seems to worry about that re: gold for example. The academics who’ve investigated the asset class don’t seem concerned.

    Psychologically I’m still more influenced by the 2008-2020 bear market than 2021 – 2022. What I do note about 2021-22 is that the asset classes behaved as predicted in a high inflation regime: bonds got kicked, commodities did well.

    We haven’t experienced high inflation since the 1980s so I think this is an important lesson.

    No-one is saying you must change your portfolio but it’s important to understand the weaknesses of an equity / bond configuration and potential improvements.

    @ Martin – You’re welcome. Thank you for the comment. I agree that this has particular relevance to retirement glidepaths where a retiree is particularly exposed to inflation risk. It’s no accident that the 4% rule is based on US cohorts investing from around 1967 who are absolutely ravaged by 1970s inflation. I’d like to see how that would turn out with a slug of commodities.

  • 18 Time like infinity July 1, 2023, 1:49 am

    Thanks to @Meany #11, @Martin #15, @talexe #16 & @TA #14+17 for super Q&A. Concerned there’s no foundational model explaining how 100% UK equity portfolio (‘e’) has 5.4% p.a. return & 0.26 Sharpe since 1934, whilst 60% e/40% c one gives 6% p.a. & 0.42 Sharpe. Defies EMH/Fama & MPT/Markowitz. Feel result needs some theoretical underpinnings.

  • 19 ZXSpectrum48k July 2, 2023, 9:09 am

    @TA. Re the comment on 1st vs 2nd gen trackers and that 1st gen problems were overstated. The performance of a fund vs. it’s index is not necessarily a useful metric.

    Example for bond market. Corp issues bond on 5th July at 100. Active investors know that trackers will buy it on 31st July when enters index, so they subscribe. Bond trades up to 105 by 31st July when active investors sell it to trackers. Tracker incurs no loss vs. index, active investors have made 5%. Tracker performance does not show they were front-run.

    The same can happen when a new futures IMM enters the index. There will be a time gap between it’s existence and entry into index. Active investors could front-run, yet no underperformance seen by trackers vs index.

    Moreover, there is this odd idea that an index is like some Platonic solid that exists outside of the market. If trackers are dominant enough then trackers do not track the index, the index tracks the trackers. This is common in markets where the index following component is highly dominant and that includes such commodity indices (plus many bond indices).

  • 20 The Accumulator July 2, 2023, 4:21 pm

    @ ZX – As ever that’s intriguing and useful to know. At the same time, I accept I’m not able to beat the market. The best I can do is track an index that approximates a market minus costs. So the best I can do is hold a low cost tracker that follows a decent index. If they get front-run I have to accept it and hope that a better product comes along. That appears to be what’s happened with some of the 2nd gen commodity ETFs.

    Interestingly, most index investing sources advise passive investors to “research your index”. But there’s very little useful independent information available on the topic.

    You’ve mentioned a couple of bond indexes that you preferred in the past. Though, IIRC, I found one of those wasn’t investible with index trackers available to retail investors. I think that was in the emerging market bond space, but I’d have to go back and double-check my facts. Anyway, I got very frustrated that I wasn’t able to access your preferred index.

    Ultimately, some active investors can beat the market. I accept that I can’t and leave them to it. Front-running has to go in the same bucket unless it fundamentally destroys the usefulness of the asset class. The alternative is paralysis.

  • 21 Time like infinity September 7, 2023, 7:57 pm

    @All: investing.com today reporting as follows (unfortunately, I’ve been unable to find the report directly, it’s behind a client login for their research at Stifle):
    “Speaking of diversification. We could be on the cusp of another structural bull market in commodities if Stifel analysts’ projections are correct. In a report published last week, the financial services company suggests that metals and minerals are gearing up to dominate the market for the next decade after 13 years underperforming stocks and fixed income”. Who knows? The snippet at investing.com shows an accompanying chart of the GSCI divided by the SP500 from 1973 to now with a ratio averaging 3.9, peaking at or near 8 in 1973-4, 1990-91 and 2008, and currently looking to be just off the 50 year low at or near to 1 (that’s 1ish – I’m trying to eyeball off a small chart, and the ratio plotted on the vertical axis goes up in increments of 2). Not a big fan of mean reversion myself, as what reason does the ratio have to be at any level? In any event, those are the figures showing on their chart.

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