Commodities Are 'Red Hot' but Are They 'Green'?

Many people today want to invest their money in "the real thing", whatever that may be. It could be a piece of land ("terra firma"), a farm in Wisconsin, a ten ounce silver bar or a bag of fair-trade, organically grown coffee beans.

Others want a "proxy" for tangible commodities. Some think owning some shares of Whole Foods Market (Nasdaq:WFMI), which just sank to a 52-week low price of $22.63, can represent such a proxy. As the price of commodities like food have soared, the shares of WFMI have sank like a rock in a pond.

In the past few days, the Dow Jones Industrial Index has tested 12-month lows, along with the S&P 500. In China, the epicenter of global economic growth, equity markets have for many months gyrated around after the Chinese equity bubble deflated.

The Shanghai Composite is 56% below its highs; the high rollers have long left town to trade farm commodities, one of the world's hottest new games, and with inherent sustainability. Soybeans, corn and oats are grabbing the headlines at this moment, after big corrections in wheat and rice prices. The list of sustainable commodities is as long as a beanstalk and is growing almost every year.

It's difficult to be a commodity investor and still feel part of the Green Movement. Yes, there are small elements of each commodity's yield that are dedicated to a "sustainable approach" to production.

But large producers are more likely to follow traditional methods and very gradually succomb to pressure by the public to be more humane, sane, and environmentally sensitive on how these commodities are created.

For the moment we hear that pork bellies are also out-of-favor by investors, along with cotton, robusta coffee and palm oil, but cocoa is running close to record price levels, along with the world's two dominant base metals, copper and aluminium.

Wouldn't it be awesome to impact how pigs and cattle are raised and have a say in the humane treatment of animals? Can you imagine having a say-so in finding better, more environmentally-sensible ways to mine for metals?

In this world, a world that is influenced by money (money seems to make the world go round) being an active investor and participant makes more sense than ever. Investment themes are changing with the times and inflation now is a big theme.

We all need to find hedges against inflation and to have currencies and monetary objects that are truly worthwhile and of value. Gold and silver for instance have always been a symbol of enduring wealth and solid currency.

Gold, platinum and silver are 9% to 15% off their all time highs. The great anomaly is that investors have increasingly less confidence in producers of commodities; they want to buy the commodities, or proxies of the commodities.

That is why Barrick Gold (NYSE:ABX) has not done as well as the SPDR Gold ETF (NYSE:GLD). Pan American Silver (Nasdaq:PAAS) has been outperformed over the past 18 months by the iShares Silver Trust (AMEX:SLV).

There are ways to participate in the traded commodity indices such as the Reuters/Jefferies CRB and the S&P GSCI (Goldman Sachs Commodity Index) series, and commodity ETFs.

These professional commodity proxies have in the past few years attracted huge investor inflows running into hundreds of billions of dollars. That trend seems to have a long lifetime ahead of it.

So offering investors a product structured like the S&P 500 for equities exposure has become essential. Investors want diversification with commodities and decreased risk.

This was the impetus behind the creation of the iShares Commodity-Indexed Trust (NYSE:GSG) ETF, which tracks the performance of the GSCI Excess Return Index. The fund will invest in a portfolio of exchange-traded futures contracts tracked by the index.

The index currently tracks 24 different commodities. It is weighted with approximately 67% invested in energy, 16% in agriculture, 7% in industrial metals, 7% in livestock and 3% in precious metals.

The index is production weighted to reflect the relative significance of those commodities to the world economy. The fund is nondiversified and is a realistic way to participate in the commodity bull market.

These kind of indices are passively run, but with real money, and thus track the price performance of weighted baskets of commodity futures, saving index managers from actually owning any physical commodities.

The bottom line is that investors want to buy commodity indices and related ETFs. That is why they are among the handful or two of investment securities across the world that are currently priced at, or are close to, all time highs.

You might also want to look at PowerShares DB Commodity Index Tracking fund (AMEX:DBC) which has a unique twist. It reflect the performance of the Deutsche Bank Liquid Commodity index.

The fund will pursue its investment objective by investing in a portfolio of exchange-traded futures on the commodities comprising the index, or the index commodities.

The index commodities in this ETF represent light, sweet crude oil, heating oil, aluminum, gold, corn and wheat. The index is composed of notional amounts of each of the index commodities.

The notional amounts of each index commodity are broadly in proportion to historical levels of the world's production and supply. No, there is nothing "green" about it or the other commodity ETFs.

But that doesn't mean commodities and commodity funds are "verboten". We can vote with our wallets when we are investors.

By becoming knowledgeable about commodities, how they trade, and the standards that are used for their production and distribution, we can begin to do what I call a "green infiltration" into the system and find ways of influencing the markets towards sustainable practices.

It is a slow, sometimes frustrating practice. But it doesn't need to be "all or nothing". Like the process of voting in elections, non-participation often is the least effective alternative.

Becoming active (versus passive) in the world of investing can be the first step to eventually being part of the green wave that changes the way things are done.

ETFs that track baskets of equities and commodities tend to greatly reduce the possibility of human error. They embrace diversity and unlike a producing oil well, wind farm or mineral mine, is far less vulnerable to supply disruptions such as hurricanes or strikes.

Some have referred to Commmodity and Energy ETFs as ",,, the investing world's new Holy Grail." As they grow more popular we can at least see a solid trend that has staying power.

Increasing investor flows and rotations into these securities reminds me of my early years as an investor, when ownership of a tangible, valuable asset such as gold and silver was seen as essential, especially in times of fear and uncertainty.

The modern investment vehicles like the ETFs described above provide virtual ownership of a professionally designed basket of tangible, valuable assets. The further benefit is that these securities offer a powerful hedge against inflation, which is very much alive and destructive in this day and age.

So my green friends, "wake up and smell the coffee", or the biodiesel or whatever commodity floats your boat (bamboo and aluminum can float boats too).

Find your own "Green Holy Grail of Investing" and if it has to be a truly green ETF like the Market Vectors Global Alternative Energy (NYSE:GEX) just realize you are getting a basket of green companies, not green commodities.

With a little investigation and careful consideration, our green consciences can have both an investment in commodities and a voice in how commodities impact the world we live in.

Disclosure: Long GLD, SLV, ABX and PAAS.

Comments

[GMiki]

Huh? How can you be active when you buy into an ETF?

[Aalan]

GMiki's question is a good one--that perplexes me, too.
There is one commodity you can buy with assurance that it's "green": GRN. It's one of the Barclay's iPath single-commodity ETNs, which give you a nice choice of what to invest in.
However, these ETNs have a drawback which invites more scrutiny. The sponsor, Barclay's Bank, doesn't take possession of the actual commodities, but just trades paper futures. Should a liquidity problem arise, either with the futures market or with the bank, it would be tough luck for the note holder. Of course, we know that could never happen, right? Hmmm...