Commodity prices falling almost as fast as they rose this year raise questions again on the wisdom of investing in such markets, but those in the game for long will say it's worth it, a market researcher said.
If you're trading these markets on a daily basis, you're going to have some gut-wrenching experiences, said Gary Gorton, a professor at the University of Pennsylvania's Wharton School and consultant to AIG Financial Products Corp.
But if you take a passive long position, you can see that you've done very well, he told Reuters in an interview.
Energy, metals and agricultural prices tumbled on Thursday, giving back some of the huge gains posted since January.
U.S. crude oil broke below $100 a barrel, off Monday's all-time high of $111.80. Gold futures in New York traded above $900 an ounce, after this week's record high of $1,033.90. Wheat futures in Chicago fell below $10 a bushel after reaching almost $13.50 in February.
Traders said the sell-off was mainly profit-driven as investors who had gained handsomely in commodities in recent months took some of those returns to cover losses in stocks and other investments that had done badly in the same span.
But in some markets like oil and copper, the selling was also due to concerns over demand. U.S. wheat exports fell to 4-month lows, a report said on Thursday, as buyers awaited lower prices.
Those developments have prompted some to ask if commodity prices in general had gone up too high, too fast, leading to a bubble.
Gorton, co-author of Facts and Fantasies about Commodity Futures, a widely quoted industry study on the benefits of having commodities in a portfolio, disputed that notion.
If you take a longer view of over a month or six months, you can see there are reasons why these prices had gone up this high, Gorton said, adding that structural weaknesses in the global economy had made commodities scarce resources that growing populations needed more and more of.
There are some commodities which are highly speculative like precious metals. But for others, like grains, fundamentals explain for their extraordinarily high prices, Gorton said.
In China, for instance, as the standard of living rises, people are eating better. The grain is going somewhere, it's not being wasted. What's pain for some people is bread for other people.
Gorton said studies on commodity market cycles going back to 1959 showed no periods when raw materials prices appeared disconnected from fundamentals and inventory levels.
The thing to keep in mind about commodities is that they historically have returns positively correlated within a group but negatively correlated across other groups of commodities and asset classes, he said.
This means metals are positively correlated to metals. But metals and grains would be negatively correlated, he said, adding that this was one of the main benefits investors obtained when diversifying into commodities.
Illustrating his point, Gorton said the Dow-Jones AIG Commodity Index .DJAIG has been outperformed this year by its agricultural subindex which, in turn, was beaten by its grains subindex.
Is all that a bubble? I don't think so.