This week we cut exposure to commodities by roughly 50% by selling down a diversified commodity fund we began purchasing in July 2009.  Since that time, and especially since last summer when the Federal Reserve began hinting about its Treasury buying program (known as QE2), commodities have been in a strong uptrend until this month.  Our position in gold remains unchanged.  Below is why we have reduced exposure to commodities:

  • Price Action – after hitting a new high shortly after Ben Bernanke’s historic press conference in April, commodities lost about 10% on average in the first two weeks of May.  Crude oil declined 15% and silver is off over 30% from its high.  Although commodities have since bounced off the lows, the strong uptrend has been broken.
  • End of QE2 – the imminent end of the Fed’s money printing operation, at least in the short term, reduces the speculative appetite for commodities and other risk assets.  Most of the commentary written on Wall Street argues that the Fed will follow up with some version of “QE3”, thereby supporting commodities and other inflation hedges.  However, we believe the bar is set high for new Fed stimulus, requiring fresh deterioration in growth and more signs of deflation.
  • Global Growth Risks – commodities have been in a secular bull market primarily due to the emerging market demand theme led by China.  China’s spectacular growth has been driven in part by cheap credit and abundant supply of cheap labor.  Now China is experiencing labor shortages in some areas, driving up wages.  As China and other emerging countries take more aggressive actions to deal with accelerating inflation, global growth is likely to slow and commodities could get hit hard.

Disclosures

This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the Funds or any stock in particular, nor should it be construed as a recommendation to purchase or sell a security, including futures contracts.

There are risks involved with investing, including loss of principal. Current and future portfolio holdings are subject to risks as well. International investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Narrowly focused investments and smaller companies typically exhibit higher volatility. Bonds and bond funds will decrease in value as interest rates rise. High-yield bonds involve greater risks of default or downgrade and are more volatile than investment-grade securities, due to the speculative nature of their investments. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume.

Diversification may not protect against market risk. There is no assurance the objectives discussed will be met. Past performance does not guarantee future results Index returns are for illustrative purposes only and do not represent actual portfolio performance. Index returns do not reflect any management fees, transaction costs or expenses. One cannot invest directly in an index.