Commodity ETF’s have been the source of much debate in the past year for many reasons. The main one has been UNG, a major hedge fund that invests in Natural Gas (almost only through futures) and which got so big that it reached the position limits set by regulatory institutions in the United States. This caused UNG to slow down the issuing of shares but also start using alternative methods such as “swaps” in order to gain the necessary exposure. This does help UNG track Natural Gas and keep getting bigger but is has also created a new “credit exposures” for the fund. If the fund does swaps with a bank that defaults, all ETF holders could end up on the losing side (although there is some protection but it is uncealr how it would work exactly).
There are also two main concerns with individuals investing in commodities. Firstly, a few years ago, commodities were not considered an asset class by most investment participants. They were considered an area of speculation and trading, but not an asset that all investors should own. That has gradually changed, especially because of the rise of oil and other commodities in the past decade.
Secondly, commodity prices that are speculated on are having a major impact on some economies. Take the example of corn or other traded commodities that are used either as food or as energy sources. When prices go up by 100%, not only does that create winners and losers in the trading arena. But also, it makes a tremendous impact in poor and emerging countries that simply cannot afford to pay 50% more for their food. This forces some governments to offer subsidies to help out their citiez but in many cases, the government simply cannot afford it.
Is it by chance that most of the biggest ETF issuers such as IShares and Vanguard do not offer any commodities funds? I personally do not think it is. In the short term, these funds have generated a lot of money. But they are also headed towards a lot more regulation and it will become a lot more difficult to run such funds. Will commodity ETF’s disapear? I don’t think so. They remain such an attractive solution for traders, and are much easier to trade than futures for many reasons. But there is no doubt, the CFTC will get involved and will start to legislate the huge flows that are happening in these ETF’s.