All About Recessionary Commodities

Mar.13.09 | About: WisdomTree Continuous (GCC)

Last week's interview with Tom Fernandes from GreenHaven Commodity Services pointed to a Yale study on recessionary commodities.

When we asked Mr. Fernandes how commodities can possibly be a good idea in this economy, he brought up a study published by Yale that is often used to justify commodity investments during boom and bust times. The study in question is a 2004 one by Gary Gorton of the University of Pennsylvania and K. Geert Rouwenhorst of the Yale School of Management titled "Facts and Fantasies About Commodity Futures."

The study discusses the performance of commodity futures over various phases of a business cycle - complete expansions and contractions (aka recessions) - using data spanning 1959 to 2004. Since we find ourselves in the contract-y bit (do we ever!), maybe we can look at the past not only for some opportunities, but for some hint of how much longer things may stay so dour.

One rather gigantic caveat: The study breaks the business cycle into early and late expansion, and early and late recession. These divisions are created by looking at the peaks and valleys of the data over time, and cannot be determined without seeing the next peak or valley - something that can only be done using hindsight. Back in December, economists told us that the current recession started back in December of 2007, but we have no way of knowing if we are in the early part or late part of that recession because we don't know how long it will last.

Winners And Losers

The authors created equal-weight commodity indices to compare how commodity futures performed throughout the business cycle.

Expansion Avg.

Recession Avg.




S&P Total Return



Corporate Bonds TR



Eq Wt Energy Futures



Eq Wt Industrial Metals Futures



Eq Wt Precious Metals



Eq Wt Animal Products



Eq Wt Other Food Futures



Eq Wt Grain and Products Futures



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Looking at the table above, the clear winner in a recession is what the authors are calling Other Food Futures - which most of us refer to as "softs," meaning things like sugar, coffee and cocoa.

Sugar, in particular, is interesting because, while it's done well generally, it does exceptionally well during a recession. It puts a whole new light on Jim Rogers' love of sugar as an investment.

Click to enlarge

The number that jumps out at me is the 54.3% gain that sugar has historically seen during the early stage of a recession. Compare that with what sugar has done since the "official" beginning of the current recession.

Sugar #11 (SB, ICE [NYBOT])

Sugar #11 (SB, ICE [NYBOT])

Looking at the monthly average prices for sugar in 12/07, prices ranged from a low of 9.66 cents to a high of 11.19 cents. Compare that with February 2009, when prices have ranged from 12.39 cents to 13.72 cents. If we compare the closing prices for those months, it looks like sugar has had a gain of 24.5%.

But it's not just sugar; it's all sorts of hard-to-invest-in commodities. Another commodity that performs similarly well in recessionary times historically is soybean oil - but not the beans themselves.

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Not as wild as sugar, but soybean oil still shows double-digit positive returns during past recessions. How about this time?

Soybean Oil, Monthly (BO, CBOT)

Soybean Oil, Monthly (BO, CBOT)

Since December of 2007, instead of gaining, soybean oil has dropped 36.8%. Sense a crack in the crystal ball?

Another commodity that has shown large positive returns during a recession is frozen pork bellies. But swine is a little different from soybean oil and sugar in that during the early part of a recession, pork bellies actually showed a negative return of 5.9%. It is during the later part of a recession that pork bellies really shine - turning in a 30.4% gain.

Frozen Pork Bellies (PB, CME)

Frozen Pork Bellies (PB, CME)

Gazing into the pork belly crystal ball would lead you to think that this recession may have a bit longer to go, because pork bellies are showing a negative return since December 2007.

By the way, pork bellies are not the commodity with the highest performance in the late recession phase - that honor goes to oats, which historically have returned 31.3%.

Crude oil is probably the best example of energy performance during recessionary times. The Yale study showed that during the early part of a recession phase, crude oil futures show a 26.3% gain (this comes following only a 4.4% gain during the early stage of an expansion and a 12.1% gain during the late phase of an expansion). But during the late stage of a recession phase, crude oil's performance goes negative - very negative - returning -21.3%.

Crude Oil (CL, NYMEX)

Crude Oil (CL, NYMEX)

Since December of 2007, crude oil has dropped 53.4. So by historical standards, you could point a finger and say, "Aha! See! Crude's signaling that the worst is over! Caviar dreams for everyone!"

In The End

I'm not biting. It's impossible to know when the market is experiencing the beginning or end of either an expansion or recession when you are in the thick of it. These determinations only come by looking back at the various data economists use to determine these things - and even then they may disagree on the exact month a cycle started.

I've always been more of a fundamentalist when it comes to commodities. The reason sugar is interesting right now isn't because of some magic causality with recessionary periods in a vacuum - it's because Indian demand remains strong and production remains constrained. I believe the long-term fundamentals for oil remain inexorably up (despite the current localized gluts of natural gas and oil). These are the important issues, not a correlation chart of the distant past.