How Attractive is the US Commodity ETF? (DBC)

With the introduction of the US Commodity ETF (DBC) earlier this year, the United States finally has an exchange traded fund that tracks a commodity index. The new DB Commodity Index Tracking Fund is keyed to the Deutsche Bank Liquid Commodities Index. The DBLCI includes fewer commodities than either the Goldman Sachs Commodities Index or the Dow Jones AIG Commodities Index. Its weighting of major commodity groups lies in between the GSCI and DJAIG, as shown in the following table:

	GSCI	DBLCI	DJ AIG
Energy	73%	55%	33%
Agricultural	16%	22.5%	41%
Metals	11%	22.5%	26%
Total	100%	100%	100%

As a practical matter, this difference in weightings turns out to be somewhat less than this table would suggest; between 1992 and 2004, the correlation between the GSCI and DBLCI was an impressive .91; their respective correlations with the DJAIG were .89 and .86. Moreover, the standard deviation of the returns on the GSCI and DBLCI were indistinguishable over this period, at, respectively, 17.60% and 17.63%, compared to 11.88% on the DJAIG.

The annual expense charge on for DBC will initially will be about 1.45% per year; as initial offering expenses are amortized over three years, this should decline to something closer to 1%.

For tax purposes, it is critical to note that, as described in the DBC prospectus, and unlike other Exchange Traded Funds, it is expected that DBC will be treated as a pass through entity, and the shareholders in DBC will be deemed to own a portion of the underlying Master partnership that actually trades the commodity futures contracts. This means that taxable investors will have to report their pro-rata share of the Master Fund's gains and losses, even if they do not correspond to the cash flows the investors have received. Moreover, because the Master Fund is a partnership, cash flows received will become taxable once they exceed the investor's initial cost basis in the DBC shares.

Bottom line: While DBC makes sense for investors committed to using ETFs, there is no compelling case for investors who wish to implement an asset allocation strategy and currently hold open end funds such as PCRDX or QRAAX to switch to it.