In recent years we have seen the commodities market enjoy an impressive bull run. With a few exceptions, the prices of commodities have experienced major increases and generally outperformed other investment class. This trend has brought commodities under the focus of investors.
What are Commodities
Commodities are a broad category of raw materials used by industries and traded on specialist commodities markets that include
· Energy – Includes natural gas and oil-related commodities
· Industrial metals – Includes Copper, Zinc, Aluminum, lead, and Nickel
· Precious metals – Gold and Silver
· Agriculture – Includes cotton, wheat, soybeans, coffee, and sugar
· Livestock – Includes cattle and hogs
Why should you invest in Commodities
Commodities are a source of inflation and hence they provide a strong hedge against it. Commodities provide benefits of risk diversification by adding them to a portfolio. Based on historical results, adding commodities to your portfolio will increase portfolio returns while lowering your risk. By adding a small percentage of commodities, say 6% can improve your overall portfolio performance and returns. Hence Commodities asset class has become an effective way of diversifying your portfolio. Investing directly in commodity producing assets gives linked returns with lower volatility and cash flow.
How to Invest in Commodities
Investors have a number of options available with them to investing money in some of the products they use daily such as food, oil and metals. There are number of ways available to invest in commodities: future market, which is used by speculators looking to make money on whether the price of a commodity will increase or decrease in the future. There are a small number of mutual funds and Exchange Traded Funds available for individual investors and for small institutions.
Risks in Commodities
Obviously, investing in Commodities is not without risks and it is not a typical for this asset class to under perform for an extended period. Commodity prices are very volatile and are affected by geopolitical risk, speculative risk and the risk of fraud in trading commodities
There are many reasons for you to invest in commodities. Judging by historical data and results, this asset class can provide attractive absolute and relative returns during appropriate economic environment. They have historically been positively correlated with inflation, while other asset class has been less or negatively correlated with inflation. If anyone invests in this asset class during unfavorable economic conditions, they must be prepared for the possibility of unpleasant results.