Commodities are among the few investments with direct relevance to everyday life; their negative or low correlation with stocks makes them great protection against inflation.
One way of investing in commodities is through stocks of companies that produce them (known as “hedgers”), while direct investments may also be possible.
Supply & Demand
Commodities investments are closely connected to global supply and demand of primary raw materials. Investors can purchase physical commodities – like hogs, wheat or oil–or exchange-traded funds (ETFs) or mutual funds that track individual commodity prices.
Commodity futures allow traders to profit by anticipating whether the price of a given commodity will increase or decrease depending on market expectations of future production, for instance a large harvest can bring down prices while drought conditions could increase natural gas costs.
Investors may also invest in commodity-producing companies to gain indirect access to various commodity prices. Many of these investments are regulated by the Commodity Futures Trading Commission. Commodities offer investors another asset class with lower correlation with stocks and bonds than stocks and bonds – helping reduce portfolio volatility while acting as an inflation hedge.
Geopolitical Tensions
Commodities play an essential part in global economy. From raw materials to finished goods, commodities form the cornerstone of many consumers and businesses alike.
Commodities offer investors an effective diversifier and potential hedge against inflation. Due to their low or negative correlation with stocks and bonds, commodity prices often outpace these markets when stock prices decline, providing an alternative investment that typically increases as stock values do so.
Investors have various options when it comes to investing in commodities. From physical commodities like gold bars or wheat flour, to futures contracts that offer indirect exposure, and exchange traded funds (ETFs), which track specific commodities exist as options.
As the global economy grapples with political and economic uncertainties, this could create additional volatility in commodity markets. Geopolitical tensions between Russia and the West could impact supply chains affecting global supply chains – thus it’s vital that investors keep an eye on risks associated with these investments.
Inflation
Commodities differ from stocks and bonds in their response to inflation; as inflation increases, prices of goods and services often follow suit–along with raw materials necessary for production. Therefore, commodities are an effective hedge against inflation.
Investors can gain direct exposure to commodities by owning physical commodities, like crude oil and gold, or investing in companies that mine, process, transport, or ship them, such as oil refining businesses, coal producers or grain millers according to Nerdwallet. Investors may also obtain long-term exposure via commodity ETFs or mutual funds.
Commodities have historically exhibited low or negative correlations with stocks and bonds, making them an appealing diversifier. Over time, portfolios containing 10% in commodities have proven useful during times of inflation but performed poorly during disinflation (except during rare Deflation quadrant). They’ve also performed better than stocks or bonds during recessions making them an effective addition during times of economic stress.
Taxes
As with stocks, bonds, and real estate investments, investors can gain exposure to commodities through various investment vehicles – such as futures contracts, exchange-traded funds (ETFs), and mutual funds.
Physical commodities–barrels of oil, herds of cattle or bushels of corn–are not an investment option for most investors. Instead, many seek exposure through commodity-related stocks that produce or mine metals or crude oil or through ETFs tracking these markets.
Commodities offer several advantages when investing, including their correlation to inflation. Although this relationship may fluctuate and perform worse during deflationary environments like 2023, commodities still can provide valuable diversification even during a recession period. Furthermore, their low correlation with stocks and bonds help lower overall portfolio volatility thereby helping reduce portfolio risk while improving consistency of returns over time.
