The Correlation Between Countries and Commodities

Roger Nusbaum submits via Hard Assets Investor: For my first article here with Hard Assets Investor, I wanted to touch on what I believe is a misconception about capturing a commodity effect.

In the last few years investors have become more aware of the diversification benefits that commodity exposure can bring to the equity portfolio table. Further, some of this effect can be captured by owning common stocks from countries that are large commodity producers.

Owning stocks from a commodity country only works to a point and is not the same as direct exposure to a commodity based product. To be clear I am a big fan of owning stocks from places like Australia, Norway and Canada, and while they do help reduce the correlation of the over all portfolio, they are not the same as exposure to gold or corn.

National Australia Bank (NAB) has a 0.408* correlation to the streetTracks Gold Trust (GLD) and Telkom South Africa (TKG) has a 0.340* correlation to GLD. Obviously both Australia and South Africa are large gold producers, yet random large cap stocks don’t really capture gold very well.

Even iShares MSCI South Africa (EZA) has a low correlation to GLD at 0.490*.

The point here is that NAB, TKG or similar stocks might be fine companies (I haven’t researched either name), but any investor buying on the expectation of buying a proxy for gold will likely be disappointed.

I do believe that stocks from commodity based countries do add quite a bit of value even if not a great correlation to gold. Generally, commodity based countries tend to be at different points in their respective economic cycles than service based economies like the U.S.. For example, the Norges Bank in Norway has telegraphed several more rate hikes to come over the next year and a half, as that country has not surprisingly benefited from the increase in oil prices over that last few years.

This contrasts with the US where consensus seems to believe a cut is coming even if the timing is uncertain. If a country is at a different point in its economic cycle there, is also a high likelihood that it is at a different point in its stock market cycle too, which, although not like owning gold, does offer some tangible zig-zag effect for a portfolio.