If you still read Marketwatch you know that on the first of the month the site rolls out its Trading Strategies page with content about the market for the coming month.
Of the eleven features this month, five of them are about commodities (one way or another). Is this a sign of a top? Should anyone investing in this part of the market be concerned? The short answer is yes you probably should be concerned.
I just submitted an article to RealMoney about portfolios with too much emerging market exposure. Chances are the same could be said about investors having too much in commodity related products too.
This post is more about risk management than analysis to say commodities will fall. I am likely to agree with any comments posted that make a bullish case but the risk is what it is. Commodities tend to be volatile, of course over the last couple of years all of the volatility has been to the upside.
Commodity ETFs, funds and stocks are not immune to price cycles. I would expect any move down, be it short lived or not, to potentially be quite aggressive. Most clients have 2-3% in GLD and 2-3% in Plum Creek Timber, some clients have 2% in CVRD and that's it (note that I differentiate energy from materials). Clients also have exposure to countries that benefit from commodities but the holdings themselves are not commodity plays.
The damage that could be done in a meltdown will be what it will be but I think the total drag in a worst case scenario would be around 5% of the portfolio. I categorize that number will within the realm of down a little.
I would bet that many people have 20-30% in second and third tier names that, based on their moves up, could easily fall by more than 50%. This kind of portfolio drag moves into the realm of down a lot.
If you own too many second tier names I would suggest reducing exposure now. Again, I am no less bullish on the theme, this is about risk management.
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7 comments:
In Business Week, they have an 8 pages artilce ( http://www.businessweek.com/bwdaily/dnflash/feb2006/nf20060223_0059_db016.htm subcription required) about SuperFund this week: While it is not directly related to Commodities, it is scary to think that this type of guys are trading commodities without any disclosure. Either:
1) they are not investing the money but just riding the inflow
2) they are truly investing in commodities but loosing their shirt and nobody knows (yet)
3) their definition of commodities extends to some illegal stuff
Anyways, I would stay away from SuperFund and keep some cash on hand to buy in case of short term melt down.
Vincent.
What is CVRD? It does not seem to be a valid ticker symbol.
WSJ had a similar article about commodities today. Demand has exploded and is trickling down to the average individual investor. If you listen real hard I bet you can hear the last person jumping on the train.
It'll be interesting to watch results when inflation finally ticks up.
CVRD is the abbreviation for the company's name. The ticker is RIO.
I don't know enough about Superfund to comment on the validity of Vincent's thoughts.
Oh, I see - Companhia Vale do Rio Doce (RIO). It has certainly done well in recent times, but it's a bit racy for me, with a beta of 1.46.
PCL looks as though it has been rolling over in preparation for taking a dive. This could provide a nice entry point later on this year. It could be an attractive core portfolio holding.
Roger, good post,
2 - 3 % GLD is very low...
The spot is going much higher , see my weblog for details.
What are second and third tier names? Yes. They may sink, but they may fly. The best way for the risk averse is to sell half their fliers when they double and hold the rest for free. I've done that very recently...and I admit I'm sorry I did as the remainder are up 245% since my purchase this year! OK. The worst happens and they sink to zero. I have lost zilch. If they sail higher, this kind of portfolio boost moves into the realm of up a lot. 10 or 100 baggers are held not traded. Will I lighten up my second tier exposure now? I don't think so, but that's my way to manage risk.
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