Investors in search of an inflation hedge may want to consider commodities.
Commodities are an insurance policy, says Vic Sperandeo, president and CEO of EAM Partners, which developed the Trader Vic Index, a collection of futures contracts in commodities, currencies and U.S. interest rates. A broad basket of commodities offers a hedge against inflation, and gold in particular is a hedge against both inflation and geopolitical chaos, Sperandeo says.
“If you’re a typical retail investor, you must have commodities in your portfolio,” he says.
Sperandeo recommends a 5 to 15 percent exposure to commodities. One way to accomplish this is to use a commodities trading advisor to buy futures, options and swaps. But investors can also use funds linked to indexes.
[See: 10 Ways to Play in the Asia-Pacific Stocks Pool.]
Commodities have been in a bear market through last year, sparked by the end of a Federal Reserve financial asset purchase program in 2011, Sperandeo says. A low interest-rate environment, slowing growth in China — a large commodities consumer — and a strengthening dollar have also been headwinds for commodities, he says.
But since the end of last year, Sperandeo says the dollar has come down from highs and China has stabilized, putting commodities on an uptrend. That should continue as long as the dollar trends weaker, he says. Also, he believes the Fed won’t raise rates in September, and relative weakness in the U.S. economy will keep the dollar stable to lower.
Precious metals are shining. Low interest rates are stimulative for gold and silver because of potential inflation down the road, Sperandeo says.
He prefers precious metals to industrial metals, such as copper, because those don’t do as well when world economies are weak. He also favors precious metals over energy and agriculture, which are more dependent on supply and demand issues, weather, world politics and global GDP.
“There is demand building for more access to gold in investors’ portfolios,” says Greg King, CEO and founder of Rex Shares, which offers gold-hedged equity exchange-traded funds. “We’re on an uptrend driven by central bank activity.”
Low interest rates reduce the opportunity costs of owning gold, which doesn’t yield earnings on its own, King says.
Gold is considered a safe haven investment that does well when equities sell off severely and acts as a hedge in more normal markets when equities are volatile, he says.
While some ETFs offer exposure to gold with physical metal in a warehouse, King’s ETFs hold positions in the Standard & Poor’s 500 index with the Rex Gold Hedged S&P 500 ETF (ticker: GHS) or emerging markets with the Rex Gold Hedged FTSE Emerging Markets ETFs (GHE) stocks. The fund assets can be used as collateral to open long positions in gold futures, he says.
The fund is for people who want to hold gold but don’t want to exit other exposure to the market, he says, noting that both stocks and gold over the long term have had positive returns. Over the shorter term, the two have a negative correlation, but it doesn’t persist, he says.
Gold isn’t a perfect hedge, King says — it’s more of a diversification.
[See: The 10 Best Materials ETFs We Could Dig Up.]
Timing the market for gold is tricky, and a lot of people missed the first quarter rally when equities were doing poorly, he notes. “You need to have the insurance when the fire happens,” he says.
Another option for precious metal investing is the PureFunds ISE Junior Silver ETF (SILJ).
Silver has properties of a precious and monetary metal that gets mined and turned into bars, coins and jewelry, but it also has industrial uses because of its ability to conduct heat and electricity, as well as its reflective and antimicrobial properties, says Andrew Chanin, CEO of PureFunds.
Also, over the last several years, for every ounce of gold mined, there have only been about 10 ounces of silver mined. Two-thirds of the silver mined goes into industrial uses, leaving the amount left for silver investment similar to that of gold, Chanin says.
“Silver is much rarer than people give it credit for,” he says.
In addition to increased demand and price potential for silver, another catalyst for smaller mining companies is their acquisition potential as larger mining companies seek to replenish reserves, he says.
Look at the producers. For exposure to commodities, Jay Hatfield, co-founder and president of Infrastructure Capital Advisors and portfolio manager of the InfraCap MLP ETF (AMZA), recommends investing in production companies rather than futures contracts or ETFs that invest in futures because the commodities themselves earn no income and there are storage costs and expense ratios to consider.
“Raw commodities are for traders, not investors,” he says.
While raw commodities don’t earn income, companies that produce them pay dividends and reinvest profits and have a higher probability of making money over the long term, Hatfield says.
He is bullish on oil and says now could be a good bargain-hunting opportunity in the energy sector. The commodity’s recent decline caused companies to spend less, which will produce a market that is undersupplied or in balance in 2017, he says. Meanwhile, North America is the lowest-cost place to find new oil, and the North American market will take market share over the next five years, he says.
[Read: Why Leveraged ETFs Are Horrible Investments.]
That bodes well for U.S. exploration and production companies, such as Pioneer Natural Resources (PXD) and EOG Resources (EOG) and energy infrastructure companies such as Energy Transfer Partners (ETP) and Williams Cos. (WMB), Hatfield says.
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How to Hedge Against Inflation With Commodities originally appeared on usnews.com
