My ETF Portfolio: Commodities Rising Again

by: John Crossman

My ETF PortfolioLast week, my portfolio was looking pretty good until Friday. Taiwan's Main Index appeared to have put the 9,000 resistance mark behind it, US numbers looked better (which is good for Mexico) and oil prices are not going down anytime soon.

Unfortunately, the unrest in Egypt reminded investors that risk can come from many different directions. The protests look like the end of the 30 year Mubarak regime which had been wobbling for some time now. This is important not because of the size of the Egyptian stock market but because of the potential for a change to the geopolitical stability in that corner of the world which followed the 1977 Peace Deal between Egypt and Israel. That is a piece of the Middle East puzzle that no one wants to revisit. I would recommend for anyone, like me, who needs to get up to speed on the situation.

But Northern Africa is not the only source of worries these days.

Commodity Inflation

Inflation is perking up all over the globe, particularly in developing markets like China. As the global economy recovers from the worst of the Global Financial Crisis, demand is growing for both hard and soft commodities. With an ample supply of stimulus dollars floating around the system, it is probably no surprise that commodities are showing strength once again. In the results this week, we see Russia (NYSEARCA:RSX), Global Energy (NYSEARCA:IXC) and Food (NYSEARCA:DBA) all vying for top rankings.

Sovereign Debt: Japan

Another story that should have caused more concern than it did was the downgrade of Japan’s long term debt by S&P. The rating drop from AA to AA- doesn’t seem earth shattering compared with some of the sovereign debt crises we have experienced over the past couple of years.

However, two issues bear monitoring when we think about the future of the world's third largest economy.

The first is that ratings agencies historically have been behind the curve in downgrading sovereign debt. If S&P is downgrading now, we may be further down the road towards the much predicted Japanese Government Bond (JGB) meltdown than the downgrade suggests.

The second question to ask is: “Who will buy Japanese debt?” In the past, this was not a terribly interesting question because the bulk of JGBs (around 94%) were absorbed domestically. With the aging of Japan, it is not unreasonable to expect that the robust savings rate, which allowed Japan to self fund its government debt, will shift into reverse. Last year the Japan Post Bank, the biggest owner of JGBs at more than 20% of the total, announced that it would no longer be a net buyer from 2011.

According to the Economist, gross debt to GDP is an eye watering 190% and rising (although other sources already quote figures in the 200% plus range) so having a major buyer like the world’s largest bank (by deposits) pull out of the market is not a small issue. The pricing mechanism for JGBs looks set to change as foreign investors are asked to bid for bigger slices of Japanese debt.

Portfolio Update

Last week, I forgot to include the cash balance in my calculations so the actual performance was -1% vs. -3.24%. Thank you to all of those who pointed this out. This week, being much more careful with my calculations, we saw the portfolio slip 0.68% for a cumulative drop of 3.5% over the past 11 weeks.

As we have marked RSX for replacement in the quarterly review next week, there will be no changes in the holdings for the week.

Disclosure: I am long IXC, EWT, EWW. No trades this week.

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