Journal of Indexes caught up with some of the best-known names in commodities to discuss investor concerns around the space.
JOI: Given that leading commodities indexes like the S&P GSCI and DJ-UBS are so different, does beta really exist in the commodities market? If so, what is it?
Rogers: The major commodity indexes change dramatically every year, which is a reason that you cannot capture any beta; instead, you capture somebody's construction of an index. I don't know if you're aware of it, but the S&P GSCI changes every year. Over three or four years, it changes very dramatically. That's true of all those indexes. In that sense, there is no beta. You're capturing performance more than anything else. If something goes up a lot, then the S&P increases its weighting in the index. I don't even know what that captures, as a matter of fact. If there's any way to capture beta, you need a stable, consistent, transparent index that doesn't change a lot.
JOI: Are index-based investments (and investing overall) affecting commodity prices?
Rogers: Essentially, in my index or any index, you would buy the future this month, and you sell it again next month. Or you sell it when it matures. So that may have some slight temporary effect on the actual cost, but it doesn't have much long-term effect.
You can see that, for instance, with stock indexes—and this is a very important differentiation. The stock index or stock funds take delivery. If the SPY buys one million shares of IBM, they take them off the market, and they're not available. That obviously affects the price of IBM. But if the S&P GSCI buys oil, they don't take it off the market. They buy the future, and then they turn around and sell the future a month later. The oil is never taken off the market, in other words. They don't really have too much of an effect on the actual price of the underlying commodity, other than perhaps a temporary effect in the marketplace when they're buying or selling the futures. While the prices of futures and commodity prices themselves usually move in the same direction, there can be differences.
JOI: What is the near- and longer-term outlook for commodities?
Rogers: Commodities are essentially a bull market because of supply problems, and that bull market has a few more years to go, in my view. Previous bull markets in commodities have lasted 18-20 years or so, but we still have several years to go, because you don't have new supply coming in. Eventually, all bull markets in the past have ended because supply has come into line and outstripped consumption. Then the price goes down until supply and demand fall out of balance again.
So far, you don't see much new supply of any commodities coming on-stream. In fact, the supply situation for some commodities is extremely serious. For instance, in agriculture, the average age of farmers in America is 58. In Japan it's 66. And farmers around the world are dying out. We have serious, serious supply problems facing us in agriculture.
In other commodities, the same problems exist. With oil, unless something happens pretty quickly, the supply problems are going to get much worse. Eventually, all other bull markets have ended, but I don't see this one ending yet.
JOI: Should individual investors be able to purchase commodities futures exposure without a gating mechanism? Do we need stricter position limits?
Rogers: I don't think individual investors need some kind of a gatekeeper. It's much more likely that you're going to find fraud in the securities business than in the cotton market or the wheat market or oil market. I think the world is full of all kinds of problems with manipulation in stocks, like with Enron. There's very little of that ever in the history of the commodities markets.
JOI: Should investors invest strategically in different commodities markets, or take a whole-asset-class approach to commodities?
Rogers: Index investing has been proven repeatedly to be best for most investors because investing outperforms the averages year after year. You should buy the S&P 500 rather than try to pick stocks, unless you're awfully good at picking stocks.
Now, within the S&P 500, if you really know about three or four industries, yes, you could probably focus and buy an index just for those sectors of the economy, and likewise with commodities. If you really know a lot about agriculture, why not concentrate on agriculture?
If you know a lot about metals or energy, why not buy the metals index, or the energy index, instead of the overall index? But most people don't know enough to make those kinds of distinctions and should just invest in the overall index.
Victor Sperandeo, President and CEO,
Alpha Financial Technologies
OI: Are index-based investments (and investing overall) affecting commodity prices?
Sperandeo: Yes and no. It depends on when. Most indices exaggerate the movements up and down. Most people don't realize that an index affects prices on the way down just as much as it affects prices on its way up.
Investors reduce exposure if they believe we're going into a deflationary or disinflationary economic cycle, versus an inflationary one. So yes, the index will exaggerate the movements, but it doesn't determine the trends. Those are determined by fundamentals of supply and demand, and government policy that restricts or increases the supply and demand of certain commodities. It's a double-edged sword: Sometimes prices move up more than they would if indexes didn't exist, but prices would also move down less if the indexes didn't exist.