Agricultural Commodity ETFs: Inflation Hedge

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Agricultural commodity ETFs provide exposure to food products such as wheat, sugar, soybeans, livestock, hogs, and also raw materials, such as cotton, timber, and wool. Water is also sometimes included in agricultural portfolios.

Ownership of hard assets like commodities is especially attractive when inflation threatens. Though most experts believe that inflation is not yet here, recent CPI (Consumer Price Index) and PPI (Producer Price Index) numbers have been higher than expected. If these numbers continue moving upward, inflation is certain and ownership of commodity ETFs will provide a hedge.

The benchmark agricultural commodity ETF is PowerShares DB Agriculture (NYSEArca:DBA). DBA is a pure food products commodity play. It holds futures contracts on corn, wheat, soybeans and sugar. These contracts are rolled over before expiration to maintain exposure. Another important futures-based ETF is PowerShares Deutsche Bank Commodity Index (NYSEArca:DBC). DBC is more diversified than DBA. It holds futures contracts in corn and wheat. But it also holds significant positions in gold, heating oil and crude.


The chart below compares DBA and DBC.

As the chart shows, over the last year DBA outperformed DBC. This reversed the trend of the previous 12 months, when DBC led. Over the last few years, energy has proved to be more volatile than agricultural commodities and more correlated with equity benchmarks.

Its not currently possible to buy either water or timber in the futures markets. ETFs providing exposure to water and timber own the companies handling the commodities rather than the commodities themselves. In the case of Claymore/Beacon Global Timber Index (NYSEArca:CUT), the first timber ETF, holdings are a diverse group of companies, including Rayonier ( RYN ) a financial REIT and major cellulose producer, and MeadWestvaco Corporation ( MWV ), a packaging and container company. CUT has significant overseas holdings.

In the case of water ETFs, holdings tend to be technology companies engaged in desalination, transportation, treatment, etc. The best established water ETF, PowerShares Water Resources (NYSEArca:PHO), for example, holds companies like FloServe ( FLS ), a flow control and equipment provider. PHO holds focused water management companies like Veolia Environmental ( VE ). PHO also has its share of conglomerates, like Danaher ( DHR ), for which the water business is a fraction of overall operations.

Though timber and water ETFs own a diverse group of companies because pinpointing exposure to the commodity itself is difficult, this is not necessarily a bad idea or poor investment strategy. Historically, companies handling commodities have significantly outperformed the commodities they handle. Commodity appreciation has also grown far more slowly than manufactured goods, and on greater volatility.

The chart below compares the futures-based benchmark DBA with the Market Vectors Global Agribusiness ETF ( MOO ), a fund which holds companies handling corn, wheat, agricultural management.

Prices for commodity tend to erode as technological innovation makes production more efficient. As farming improves commodities become cheaper to produce. Technology also produces synthetics with lower prices and less volatility compared with commodities. Relative appreciation of commodities is also important (for example if corn prices increase then land planted with soybeans can be used to grow corn, depressing corn prices).

But in an inflationary scenario, the most important consideration is the commodity as hard asset. Inflation means that commodities cost more. Inflation happens to commodities. Ownership of agricultural commodity ETFs can be a good way to get on the right side of an inflation trend.

A list of Agricultural Commodity ETFs and expense ratios follows:

FUTURES BASED

FUTURES BASED

GreenHaven Continuous Commodity Index Fund ( GCC ), 0.85%

iShares GSCI Commodity-Indexed Trust ETF ( GSG ), 0.75%

PowerShares DB Agriculture (NYSEArca:DBA), 0.75%

PowerShares DB Commodity Index Tracking Fund ( DBC ), 0.75%

AGRIBUSINESS

AGRIBUSINESS

Market Vectors Global Agribusiness ETF (NYSEArca:MOO), 0.58%

WATER

WATER

PowerShares Water Resources (NYSEArca:PHO), 0.64%

PowerShares Global Water (NYSEArac:PIO), 0.75%

Claymore S&P Global Water (NYSEArca:CGW), 0.70%

First Trust ISE WATER INDEX (NYSEArca: FIW), 0.60%

TIMBER

TIMBER

Claymore/Beacon Global Timber Index (NYSEArca:CUT), 0.95%

iShares S&P Global Timber & Forestry Index (NasdaqGM:WOOD), 0.48%

SHORT/LEVERAGE

SHORT/LEVERAGE

ProShares Ultra DJ-AIG Commodity ETF ( UCD ), 0.95%

ProShares UltraShort DJ-AIG Commodity ETF ( CMD ), 0.95%

Jonathan Bernstein has been writing about ETFs since 2003 and is the author of Sector Trading: A Year in Exchange Traded Funds .

Jonathan Bernstein has been writing about ETFs since 2003 and is the author of Sector Trading: A Year in Exchange Traded Funds . Jonathan Bernstein Sector Trading: A Year in Exchange Traded Funds



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , ETFs


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