What's been driving commodities?

Gargi Pal Chaudhuri Jun 11, 2021

Investors turn to commodities amid rising inflation concerns

Key takeaways

  • Commodity indexes are rallying as government stimulus and low interest rates fuel inflation expectations.
  • Commodities can help investors hedge against inflation and diversify portfolios.
  • Commodities-related exchange traded funds (ETFs) can offer convenient and affordable exposure to broad baskets of commodities- related equities, as well as to physical commodities.

Expectations for rising inflation in a strengthening, post-COVID economy have helped lift commodity prices in 2021, and recent moves highlight how commodities can offer diversification as markets price in potential risks of stimulus-fueled growth.

Commodities, as represented by the S&P GSCI - a benchmark of 24 commodities in agriculture, energy and metals — is a top-performing asset class through the middle of May, up 25.0% through May 14, outpacing stocks and bonds.1 It’s a sharp turnabout from 2020, when commodities lagged behind stocks and bonds.

Commodities and inflationary forces

Commodity price gains in part appear to reflect the growing demand for raw materials such as copper for use on the factory floor and to build renewable energy infrastructure, and we expect that trend to continue.2 This follows severe pandemic-related disruptions in the global supply chain which accelerated a shift to localized production, limiting supply and pressuring raw material exports.  With inventories remaining tight and commodity capacity constrained, copper, aluminum, palladium, corn all recently traded at multi-year highs, and oil prices have recovered to pre-COVID levels.3

Extraordinary fiscal action from policymakers will aid the economic recovery in the near term but is raising questions about the potential for longer-term inflationary pressure. The discretionary fiscal response so far from global policy makers in response to the pandemic is about four times larger than after the global financial crisis, according to the BlackRock Investment Institute.

Rising commodities indexes may be a reflection of increased inflation expectations

Rising commodities indexes may be a reflection of increased inflation expectations

Line chart showing commodities index and inflation expectations
Bloomberg, as of 5/26/2021. Index performance is for illustrative purposes only. The green line represents the S&P GSCI Total Return Index, an index composed of a diversified group of commodities futures including energy, industrial and precious metals, agricultural, and livestock. The US 10-year breakeven rate measures the difference between the 10-year Treasury Bond and Treasury Inflation Protected Securities (TIPS). The breakeven rate serves as an indication of the markets' inflation expectations over the 10-year horizon. Index performance does not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.

Consider exposures to physical commodities and commodity-related equities to help hedge against inflation

Previously, investors thought of gold when looking to protect against price surges because gold has historically demonstrated moderate sensitivity to changes in inflation. Recently, the relationship between gold prices and inflation has been less pronounced than in cyclical commodities such as energy, which is more directly tied to consumer and manufacturing activity. Gold has tended to underperform in periods of rising real interest rates because owning physical gold doesn’t generate income in the form of interest or coupons.

We believe investing in exposures to physical commodities and commodity-related equities can help to hedge against inflation, since commodities are inputs in inflation gauges including the consumer price index. For example, energy comprised about 6%4 of inflation as measured by the Consumer Price Index for All Urban Consumers and impacts the costs of many goods and services in the economy. Historically, commodities have exhibited relatively low correlation to equities and bonds over time, in particular for non-Canadian exposure, potentially adding diversification to multi-asset portfolios.5 Moreover, commodities sectors typically have a low correlation or negative correlation to each other, for instance precious metals and livestock are two commodities sectors that are historically negatively correlated.

ETFs for commodity exposure

Investors are increasingly using commodities in their portfolios for diversification of returns and to help mitigate other risks in their portfolios. ETFs offer convenient, affordable exposure to commodities and can help investors align their portfolios with their views on inflation and economic growth.

YTD performance

YTD performance

Source: Morningstar Direct, as at May 25, 2021. For more information on performance for these funds, please click on the respective fund tickers below.

Gargi Pal Chaudhuri

Gargi Pal Chaudhuri

Head of iShares Investment Strategy Americas at BlackRock

Dorothy Lariviere, CFA, CAIA

Director

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