Yale professor sees commodities decoupling

LONDON – Commodity prices will decouple from equity markets in the near future, providing investors with more diversification, Yale University professor K. Geert Rouwenhorst told Reuters.

The academic, whose 2004 paper was instrumental in convincing institutional investors that commodities could be a new asset class, said he stood by his findings from six years ago, despite huge volatility in most commodity markets over the last 36 months and rising correlations with equities.’The correlations between commodities and equities that we’ve seen since the start of the crisis are unlikely to continue. If the oil price was to soar again it’s unlikely that’s going to be accompanied by a sharp increase in equities,’ Rouwenhorst said by telephone from New Haven in the US.’The long side of commodity future contracts continues to provide diversification to traditional portfolios of stocks and bonds and unlike some other asset classes commodities have been shown to be positively correlated with inflation.’Rouwenhorst’s 2004 paper, ‘Facts and Fantasies about Commodity Futures’ with now fellow Yale professor Gary Gorton argued that commodities provided attractive long-run returns similar to equities, but crucially, the correlation between the two markets was weak, providing a useful hedge for investors.In the six years since the paper’s publication, institutional investors have allocated an increasingly large amount of their portfolios to commodities. The value of commodity funds looks set to grow by one third in 2010, leaping by a further US$100 billion, with many funds considering allocations of up to ten per cent. While some analysts have argued new participants have changed the way commodity markets operate, with many investors now taking bullish or bearish views on both equities and commodities at the same time based on the macroeconomic outlook, Rouwenhorst said the impact had been overstated. ‘When investors started taking larger exposure to the future markets, it was also at a time when these markets themselves grew,’ Rouwenhorst said.’At the peak the notional size of commodity derivative markets was in excess of US$10 trillion. Investments in commodity indices are generally estimated at just US$200 to US$300 billion – it sounds a lot, but it’s not when compared with the overall size of the market.’Commodity and equity markets have often moved in tandem since the peak of the economic crisis in the Autumn of 2008. After both crashed in the wake of Lehman Brother’s demise, the two markets both rallied by more than 70 per cent in 2009.’We saw a very unusual shock last year which was not unique to commodities – investors were simply pulling risk off the table across all classes at this time,’ Rouwenhorst said.Rouwenhorst is also a partner in SummerHaven Investment Management, a fund specialising in commodities and indices which takes an active approach to managing positions in the market. The fund launched last year.’I think people should look both at outright returns and diversification when investing in commodities,’ he said.’Investors will receive higher compensation in periods of scarcity. In the emerging markets we will continue to see increased demand for resources which will likely be paired with the view of long periods of scarcity.’ – Nampa-Reuters