What Are Commodities and Are They Worth Your Investment? When most people start investing, they put their money to work in equities. However, there is a whole other world of investment opportunities worth exploring – commodities. Here, we will take a look at what commodities are as well as their associated advantages and disadvantages.
What is a commodity?
A commodity is a raw material or a raw agricultural product that can be bought and sold. Examples of commodities include gold, silver, copper, corn, beef, coffee, soybeans, and wheat. In the United States, commodities are commonly traded on the Chicago Mercantile Exchange or CME. However, retail investors can invest in almost any commodity through Exchange Traded Funds or ETFs.
Advantages of Commodity Investing
There are a number of reasons why the average investor should consider investing in commodities. Here’s a look at three major advantages that commodity investing offers.
1). Mostly uncorrelated with stocks
In many cases, commodities are uncorrelated with stocks. This allows for better diversification in the average portfolio. For instance, gold tends to be uncorrelated with stocks. In many equity bear markets, gold tends to hold its value or even rise in value.
2). Can be an inflation hedge
Commodities can also be an excellent inflation hedge. During the 1970s – when inflation was rampant – there was an incredible rise in the price of many commodities. As an example, the price of gold rose from $35 per ounce in 1970 to nearly $595 per ounce by 1980.
3). No earnings risk
With commodities, you don’t have to worry about earnings or other corporate events that create sudden volatility in stocks. This can help create some stability in one’s portfolio.
Disadvantages of Commodity Investing
While there are a number of reasons to like commodities, there are some issues that you will need to consider. Here’s a look at some disadvantages to commodity investing.
1). Can be more volatile than stocks
There are times when the commodities can be extremely volatile. As an example, the price of oil actually went to negative $35 per barrel – for a brief moment – during the height of the pandemic on April 20, 2020. Therefore investors should consider the risks of owning commodities.
2). Prolonged bear markets are common
Some major commodities can end up in prolonged bear markets. As an example, Gold ended up in a nearly 20 year bear market after its meteoric rise during the 1970s. Therefore, investors should be prepared for such an event.
3). More sensitive to geopolitical risk
Finally, commodities can either rise rapidly or collapse due to geopolitical events. As an example, war in the Middle East can cause the price of oil to soar while the shutdown of the economy during the pandemic can cause that very same commodity to collapse.
Getting Started with Commodity Investing
Commodities should be considered for almost any investment portfolio. However, the investor should understand the unique risks and rewards that come with commodity investing. Consult with a financial advisor before making any final investment decision.