I have often in the past quoted Albert Edwards of Société Générale, but Dylan Grice, his colleague on the SocGen Cross Asset Research Team, is equally sharp (and entertaining). Below are a few food-for-thought paragraphs and a chart from his latest report – on a flavor-of-the-month topic, commodities
“With scarcity developing in key parts of the commodities complex – energy, industrial metals and agriculture – there are many good reasons to want exposure to commodity markets. Regular readers will know I’m particularly bullish on agriculture (and gold, though I view this as a currency). But there is one very good reason not to invest in the commodities themselves: their expected long-run real return is 0%.
“The fluctuations of commodity prices have fascinated speculators for hundreds of years, but why should investors be interested? Commodities aren’t productive assets, so how can they create wealth over time? And why should they provide investors with a collectable risk premium? Commodity returns can be decomposed into the “spot” return and the “roll” return. It’s not obvious to me that either are dependable sources of compoundable profit.
“Prior commodity bull markets have been much like England football managers: they promised much, burned brightly for a while, but ultimately crashed, breaking the hearts of those who believed in them most. The chart below shows that in real terms, commodity prices have gone nowhere in the long run. Bull markets have tended to end where they started. Admittedly, the commodity series in the chart is a spot price index rather than an investable total return index, but total returns are likely to be as underwhelming.
“All this implies a bright and profitable future for skilled traders able to see the bottom of bear markets and the top of bull markets. The rest of us, we’ll be lucky to do as well as your average long-suffering fan of the English national football team. There will be ups and downs, but history suggests “buy and hold investors” in raw materials are likely to make zero real returns. Better to build a portfolio of low-cost commodity producers/equipment providers, or give your money to people who know the commodity markets well, be they trend-following CTAs or competent speculators (if you can find any at a good price).”
