Commodity funds switching to copper, silver and natural gas

With funds increasing investment in commodity indices, interest is moving to reallocate funding in a more sophisticated way away from wheat and into copper, silver and gas among others.

Author: John Kemp (Reuters)
Posted: Friday , 06 Nov 2009

LONDON (Reuters) -

Investor interest in commodity indices increased substantially between July and September, with significant fresh inflows, but new money is being allocated in a more sophisticated way in a bid to minimise the cost of being long in markets with a contango structure.

Funds invested in commodity indices amounted to $134.5 billion at the end of September, up 14.8 percent from $117.2 billion at the end of June, according to new data from the Commodity Futures Trading Commission (CFTC).

While the value of investments remains well below the peak at the end of Q2 2008 ($202 billion) it has risen almost two-thirds since the Q4 2008 low ($82 billion).

Between Q4 2008 and Q2 2009, the rise was largely driven by an appreciation in prices.

But most of the Q3 increase appears to have come from an inflow of new funds rather than a revaluation of positions already held. While index investments rose 14.8 percent between June and September, the weighted-average price of the commodity futures in the Goldman Sachs Commodity Index .SPGSCI was up less than 3 percent.

FLEEING FROM THE CONTANGO

Index allocations still resemble the simple GSCI, and remain over-weighted towards crude and refined product futures contracts mired in loss-making contango structures, but there are signs investors are beginning to reallocate funding in a more balanced way in a bid to cut roll costs.

Total funds have shifted away from crude, refined products and wheat towards natural gas, copper and silver. While the shifts are marginal, they suggest an ongoing restructuring of index holdings.

The percentage of funds allocated to WTI (U.S.) crude was cut from 25.9 percent at the end of June to 24.7 at the end of September, with an even sharper reduction in allocations to gasoline (4.5 percent to 3.9 percent). Investors also cut allocations to the troubled CBOT wheat contract (4.0 percent to 3.3 percent).

In contrast, allocations to cheap natural gas futures rose (8.1 percent to 9.3 percent) as did allocations to sugar (4.0 percent to 4.8 percent), copper (3.1 percent to 3.6 percent) and silver (1.5 percent to 1.9 percent).

NO CBOT WHEAT RUN DOWN, YET

Index funds continued to dominate interest in CBOT wheat futures (42.5 percent) as well as some of the other agricultural contracts. There is no sign in the data that index operators had reduced their allocations to CBOT wheat by the end of September.

In August, the CFTC revoked exemptions given to two operators, including the Deutsche Bank Commodity Index Tracking Master Fund, which had previously allowed them to exceed federal position limits in wheat corn and soybeans. Positions must now be run down over time to comply with the limits.

At the start of October, Deutsche Bank announced it would cut weights for corn and wheat in some of its funds, while adding new contracts for natural gas, gasoline, silver, soybean oil, zinc, cocoa, coffee, cotton and cattle. The intention was to create more diversified indices while also complying with limits in corn and wheat.

The bank announced the weightings would be adjusted by the end of October. The impact should be apparent when the Q4 index data are published at the end of January next year.

Some operators have responded to the prospect of tougher position limits in the United States by threatening to shift weightings towards contracts based overseas. Standard and Poor's, which provides the GSCI, hopes to launch a new version next year that would exclude U.S. futures contracts to appease clients fearing new U.S. regulations.

So far any reallocations have been modest. Index funds invested in commodity markets outside the United States rose 20 percent between end-Q2 and end-Q3, slightly faster than investments in U.S. commodity markets, which were up 13 percent, lifting the share of non-U.S. commodities in the total from 19.2 percent to 20.1.