Don't Buy Commodities ETFs or Short Term Futures

Today I walked into the office of a billion dollar ETF, introduced myself as a shareholder, and asked if there was anyone I could talk to about how the fund works. The office had exactly 3 people working there. At first they seemed a little nervous, as I'm sure they don't ever get random visitors off the street, but soon I was talking to one fund manager about where our kids go to school and common friends.

Shortly after that, the ETF manager got off the phone and for 90 minutes we talked about the mechanics of the fund, the futures markets, and marco-economic stuff. He was a friendly guy who seemed to love talking about all that stuff. Hopefully I'll be able to talk to him more in the future, and I don't want him to regret talking to me, which is why I'm not saying which fund he created.

The key takeaways I want to share with this board are that commodities futures are overpriced and that the fund doesn't really care about its performance. It's purpose is to offer a trading vehicle for people who want to trade commodities futures via the stock market. However, the fund is so large it has to trade short term futures because that is where the volume, liquidity (and volatility) are. Far too many people are buying these futures and the prices are too high relative to the spot prices. Consequently, as a result of "contango" the futures cost more than the spot price and rapidly lose value as delivery approaches (and speculators become sellers).

Also, the real customers of this fund are the big investment banks, who buy new "units" into existence and then trade them on the equities markets. By losing shareholder money to contango, spreads and commissions, the fund makes lots of money for Wall St. I believe that if it were to trade more intelligently and perform better it would lose its preferred position in the market relative to competitors. On a short term basis, the fund actually outperforms the futures because it takes investors money and puts it into T-bills (as futures bets don't occupy the capital), but on a long term basis the fund loses money relative to the spot prices of the commodities.

So, the moral of the story is to buy long term futures if you want to speculate on commodities.

Edited 1 time(s). Last edit at 05/11/2007 09:01PM by RodgerRafter.

Here's a chart of the Oil Futures curve and how it has fluctuated over the past three trading days:



If you or your commidties fund are buying futures with less than a year to delivery, then the curve is working against you in a very big way.

Crude Oil is king of the petroleum futures trading market! Here's some valuable hints and kinks taken from actual trading experiences.

Crude oil futures contracts on the NYMEX (New York Mercantile Exchange) is a very liquid market. In the past few years crude oil has been in the news with great price swings. This liquidity and price movement makes it a top-five trading vehicle of the twenty major commodity markets.