Most investors probably haven’t thought about how to add pork belly or winter wheat stocks to their portfolios. But many have lined up at Costco to buy gold bars. All of these investments are part of a broader asset class called commodities, along with crude oil, coffee and copper. Despite the impressive gains many commodities have made this year, some strategists say commodities still have a long run of upside ahead and are worth adding to your portfolio.
That’s because commodity prices tend to go up and down in long cycles that are driven mostly by human instinct, says John LaForge, head of real-asset strategy at Wells Fargo Investment Institute. Commodity producers increase production when prices rise, eventually saturating the market, or at least creating overstocks that start to eat into profits. “You get to a point where producers aren’t interested in planting an extra acre of corn or producing an extra barrel of oil,” LaForge says.
Producers then scale back production until the excess supply disappears. When the commodity is in short supply again, prices begin to rise again, and the cycle repeats. These bull and bear market cycles tend to last about 10 to 15 years on average, according to LaForge. We’re currently “in the fourth year of the bull supercycle,” which began in March 2020, he said.
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‘Very positive’ outlook for commodities
Short-term trends also affect commodity prices – for example, severe weather, supply chain disruptions, geopolitical tensions, and inflation spikes – which can make commodities volatile during longer-term trends in supercycles.
Jim Masturzo, chief investment officer of multi-asset strategies at asset manager Research Affiliates, sees a number of factors pointing to a “very positive” outlook for commodities, including strong growth in commodity-intensive sectors of the economy like green energy and artificial intelligence, expectations that U.S. inflation will remain high for a long time and that the dollar will eventually weaken. (Commodities that are typically priced in dollars tend to move inversely to the dollar.)
Commodities can be an effective diversifier in a portfolio. “Commodities offer diversification from regular stocks and bonds,” Masturzo says. “2022 is a good example of this, as inflation rose all major asset classes were negative except for commodities.”
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Outside of gold, it’s nearly impossible to invest directly in a commodity – you’ll most likely invest in a derivative instrument such as a futures contract that tracks the price of the commodity (sometimes more closely than at other times), or you can invest in stocks that are linked to the commodity.
Each approach has its pros and cons depending on a variety of variables. How much you allocate to commodities overall will depend on your risk tolerance, but strategists say you’ll likely need 5% to 10% to realize diversification benefits.
Gold has been shining among commodities lately. “We’ve been bullish on commodities in general for a while, especially precious metals,” says Mayukh Poddar, senior portfolio manager at Altfest Personal Wealth Management. Geopolitical tensions and ongoing inflation fears are positive, and gold is getting a boost from foreign governments increasingly allocating excess reserves into gold, he says.
“Generally speaking, we like metals. Mining stocks are more volatile,” Podar says, but the firm also has some exposure to mining stocks, which are currently undervalued. Exchange-traded funds are a good choice. Podar likes SPDR Gold Mini Shares (GLDM, $46), a low-cost fund backed by physical bullion. For a broader precious metals basket, he likes Abdulna Physical Precious Metals Basket Shares (GLTR, $104), which offers exposure to gold, silver, platinum and palladium. (Prices, returns and other data are as of May 31 unless otherwise noted.)
Long-term investors shouldn’t be put off by gold’s big gains. Gold has risen from about $1,820 an ounce last October to $2,325 recently, but is down from an all-time high of $2,435 in May. “This is not a very extreme gain, especially in a bullish supercycle,” LaForge said. A pause to consolidate gains wouldn’t be surprising, he said. But LaForge sees gold trading at more than $2,500 an ounce by 2025.
Gold mining stocks have clearly lagged the metal’s surge, making them attractive to tactical investors who can stomach the volatility. “Gold miners seem to be staying neutral, which is unusual. Gold miners typically outperform gold miners in bull markets,” says John Hathaway, senior portfolio manager at Sprott Asset Management, a precious-metals specialist. Intrepid investors looking for exposure to mining stocks could consider VanEck Gold Miners (GDX, $35), an ETF with Newmont (NEM), Agnico Eagle Mines (AEM), and Barrick Gold (GOLD) as its top three holdings.
Oil has been on a roller coaster ride. In 2020, the coronavirus crashed demand, sending it below $0, then in 2022, Russia’s invasion of Ukraine upended supply, sending it back up to more than $120 a barrel, before it’s back below $80. LaForge sees a modest rise to $85 by 2025. “Oil needs to calm down a bit,” he says. “Even in bull markets, prices don’t skyrocket every year.”
In contrast to the gold strategy, when it comes to energy, Altfest’s portfolio managers favor stocks over the commodity itself. (Wells Fargo strategists also recommend that equity investors overweight the sector in their portfolios.) Altfest’s Podar says that if oil prices stay within a stable range, energy producers and related companies should see decent profits. He sees attractive valuations among the big diversifiers, including Exxon Mobil (XOM) and Chevron (CVX), major holdings in the Energy Select Sector SPDR (XLE, $93).
But before narrowing your focus on any particular product, consider whether a broader approach might be more suitable. While some parts of the product complex may be more attractive than others at any given time, investors shouldn’t stress about picking one that stands out.
“A broad basket is best,” LaForge says. That’s because in a bull supercycle, he says, the rising tide tends to lift all boats. He notes that about 90% of commodities move in the same direction in a supercycle, whether bullish or bearish. “If investors get too comfortable and try to just pick one, they could end up being one of the 10 that doesn’t participate.”
One broad-based ETF worth considering, according to Poddar, is Invesco Optimum Yield Diversified Commodity Strategy No K-1 (PDBC, $14). This actively managed ETF invests in the energy precious metals, industrial metals and agricultural sectors, and as the name suggests, it doesn’t have to file tedious K-1 forms at tax time.
Note: This item first appeared in Kiplinger Personal Finance Magazine, your trusted source of monthly advice and guidance. Subscribe here to help you multiply the money you make and keep more money in your pocket.
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