Commodity Indices = (Mostly) Energy
In my previous post I showed that commodity indices have become increasingly positively correlated with the U.S. stock market, and today provide little in the way of diversification.
One additional point: despite being billed as diversified measures of commodity returns, commodity indices tend to be driven mostly by energy prices alone.
Above is the rolling 3-year monthly correlation between the spot price of WTI crude and 4 major commodity indices: Goldman Sachs (blue, ETF GSG), CRB (red), Dow Jones-UBS (green, ETF DJP), and Deutsche Bank (purple, ETF DBC), from 1984.
With the exception of the CRB index, all have exhibited a correlation of +0.85 over the last 3-years (far right of graph). The Goldman Sachs index has been the worst offender with a 3-year correlation to WTI crude of +0.94.
This is mostly a result of the fact that the indices are heavily weighted towards energy: crude, gas, heating oil, natural gas (but also to a smaller degree because many unrelated commodities tend to also move in unison with energy). I realize that I’ve only shown WTI in the graph above, but I think it makes the point just fine.
The only major index to buck the trend is the CRB index which gives a smaller weight to energy. I’m not aware of an ETF that tracks the CRB (readers, please keep me honest here), but the ETF GCC does track the CRB’s close cousin, the CCI.
One last bit of data.
Folks sometimes view commodity indices as a proxy for gold. I think the next graph of the correlation between gold and the 4 major commodity indices dispels that idea (in today’s market) quite nicely.
Having said all of the above, I still use the Goldman Sachs index (ETF GSG) when trading commodities in the MarketSci TAA model.
GS weights its index based on world-production: the average quantity of production world-wide over the last 5 years. Stats be damned, that orderly approach appeals to the inner geek in me.
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