Comparing Commodity ETFs/ETNs

Commodities have become an accepted asset class for a significant portion of investors. Ibbotson has performed studies showing that commodities are a beneficial asset class addition to a portfolio.

The ETF/ETN providers have created convenient and low cost ways to invest in a diversified basket of commodities. This article looks at the the iPath ETN (DJP), the PowerShares ETF (DBC) and the iShares ETF (GSG). There are other broad index commodity funds, but at this time DJP, DBC and GSG are the most liquid.

The index differences, underlying assets differences, and entity structure differences create materially different gross total returns and tax liabilities.

The performance charts that follow are linked to the Yahoo Finance site and are up-to-date (daily), even past the date of this publication.

PERFORMANCE

One-Year Chart Comparing DJP, DBC and GSG:

Three-Month Chart Comparing DJP, DBC and GSG:

OTHER LINKED DATA:

You can currently access the Yahoo Finance Main Page, Yahoo Finance Charts, sponsor Fund Fact Sheet and Prospectus for each fund at::

• DJP: Main | Charts | Fund Fact Sheet | Prospectus
• DBC: Main | Charts | Fund Fact Sheet | Prospectus
• GSG: Main | Charts | Fund Fact Sheet | Prospectus

INDEX COMPONENTS AND WEIGHTS:

The weights for the commodities in the funds are rebalanced annually and then vary during the year based on market fluctuations. Up-to-date index composition information can be accessed at these links:

DJ-AIG index | DB index | S&P index

Key differences in the composition of the indices and their methodologies are shown in this chart. They have different numbers of commodities and weight the commodities differently.

At the annual rebalance, the DJ-AIG index (proxy DJP) sets maximum exposure for each individual commodity and each commodity group.

The S&P GSCI index (proxy GSG) does not set maximums, and instead weights the commodities on world production basis.

The Deutsche Bank Optimum Yield index (proxy DBC) resets weights annually at the fixed allocations established in July 1988.

A closer look at the components in the next table shows the specific commodities currently held in the indices (and presumably therefore in the funds) over the April-May 2008 period.

TRACKING THE COMMODITY GROUPS:

There are many commodity group ETFs/ETNs, but few have sufficient assets, volume or length of existence to warrant consideration at this time. The most active of those narrow focus funds representing each of the five commodity groups are:

• (USO): oil to represent energy
• (DBA): agricultural crops
• (COW): livestock
• (GLD): gold to represent precious metals
• (DBB): industrial metals

COMMODITY GROUP PERFORMANCE:

One-Year Chart Comparing USO, DBA, COW, GLD and DBB:

Three-Month Chart Comparing USO, DBA, COW, GLD and DBB:

CORRELATION OF RETURNS:

According to 15-year data (to March 2008) from Barclays (sponsors DJP and GSG) and 10-year data from Deutsche Bank, the three broad commodity indices have an approximate 0.80 to 0.90 correlation between their returns in the long-run.

Using the Vanguard correlation calculator for a 1-year view (ending in May 2008), the commodity indices were negatively correlated with US stocks, US bonds and US equity REITs, and minimally correlated (0.10 to 0.20) with foreign developed market stocks and emerging market stocks.

According to Barclays’ 15-year data, commodities are minimally correlated to US stocks (0.08), US aggregate bonds (0.01) and foreign developed market stocks (0.22).

In a subsequent article, we will look closely at the risk and return implications of the fund entity structures and the specific indices followed by these and other commodity funds.

Comments

[SA2:]

Beware! the tax implications of the DB funds are severe and unexpected.

I lost a lot of money on DBA and DGL due to this unexpected surprise.

Looking forward to your clarification on this point in the next post.

Thanks,
SA.

2008 Jun 08 05:24 PM

[drbagel:]

Just to clarify, the target (base) weight of the underlying components of DBC are somewhat different and are probably the more important numbers over the long haul.
Energy 55%
Grains 22.5%
Gold 10%
Aluminum 12.5%

I think DJP has the best mix but I would be afraid to allocate such a large portion of my portfolio to a single corporate bond (which is what DJP is, essentially)

XME is a nice way to gain commodity exposure without funky tax consequences (its a stock fund), with low costs (35 basis points), with limited energy exposure (35% coal) and with virtually no oil and gas exposure (these are already well represented in the S&P 500.)

I own none of these.

2008 Jun 09 09:43 AM

[sbenard:]

There are also several other ETFs/ETNs. There are some new ones by Deutsche Bank that both double the long and double the short side of the commodity markets. One might look at them also before making a decision.

2008 Jun 09 02:27 PM