The Federal Reserve raised the discount rate, which is the rate it charges to make loans to member banks, and investment strategists are all a lather that this is ‘the’ signal to start adding commodities to investment portfolios.
If you don’t think the markets are not made of people who are emotional you just have not been paying attention. Think Jimmie ‘The Sky Is Falling Cramer’ in case you had a lapse in memory. Investment professionals are kissing cousins to back seat drivers and just about anything that happens from volcano eruptions to TMZ interviewing Ice-T’s Nicole Austin makes them nervous. “Turn left- Sell this!’ Lately some investment professionals have been hyperventilating because of a tick in interest rates. This they see this as the beginning of the Fed tightening cycle.
Robert Johnson of the CFA Institute said, ‘Commodities perform much better in a rising interest rate environment.’ He pointed to a 37 year study where the Fed changed the discount rate 113 times but only 18 of those moves meant that investors would need to get in or out of commodities.
The study went on to find which percentage of commodities added to a portfolio optimized the best results. Five percent was found to do little to increase return or reduce risk but fifteen percent of assets seemed like the perfect addition to maximize returns during an inflationary cycle.
The problem is which commodities to use. This year we’ve seen sugar tank by 38% and nickel gain 35% due to an increased demand from steelmakers. Agricultural ETFs are still off for the year while gold hasn’t broken through last year’s high. Pimco, Blackrock and American Century have ETFs that track a broad based commodity index.
Some experts contend that these ETF investments are too generalized to do any real good and recommend a more narrow focus of targeting on specific commodities. Howard Simons with Chicago based Bianco Research suggests that copper, zinc and other base metals have the ‘best’ outlook.
The problem is loading up on a specific sector that Simons suggests and not taking a generalized overview of the entire commodity sector. In that case investors need to be extra cautious in case this proves to be a premature signal. And we all know what happens when we listen to those that think they know what they are talking about. Right, Jimmy?
If you have questions on this blog call Paul at 877 783 7080 or write pstanley@westminsterfinancial.com. Share this blog with someone who cares about their money.
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