How to Invest in Commodities

Investing in Commodities

Commodities are raw materials like gold or oil and agricultural products such as wheat or cattle that can be bought and sold on the markets. Commodities can outperform stocks or bonds but come with a downside: risk. Many investors use mutual funds and ETFs that focus on commodities to leverage the strong growth potential while managing this risk (1).

If you’re looking to diversify, investing in commodities like energy, metals, and agricultural products has strong growth potential that can be worth the risk (2). People always need to keep warm, put food on their tables, fuel commutes, use essential items like cell phones that rely on raw materials, and more. Even during periods of high inflation, commodities are in high demand, potentially helping to offset your portfolio’s slumping stocks and bonds during market downturns.

Here’s a quick look at commodities:

Commodities are valuable, essential raw materials and agricultural products that can be organized into three main groups:

Energy: coal, oil, and other fossil fuels
Metals: from gold, silver, and copper, to lithium, tin, and graphite
Agricultural products: from wheat, corn, and coffee to cattle, cotton, and lumber

Ways to invest in commodities Investing in commodities can feel like a balancing act between risk and reward. But you can choose the risk level that feels comfortable for you. Two ways to put your money in commodities are relatively complicated:

Own the physical commodity, like gold bullion. The downside is that owning actual gold bullion (or storing bales of wool!) isn’t feasible for many average investors.
Trade in future contracts. Futures involve a high level of risk and complex taxes mechanisms that are usually best left to sophisticated investors.

Thankfully for the average investor, there are two other ways to invest in commodities, both of which are relatively simpler:

Buy and sell shares of businesses that produce the commodity, such as oil companies.
Buy shares of mutual funds and Exchange Traded Funds (ETFs) that specialize in particular commodities or have exposure to a range of commodities.

The average independent investor can buy shares in companies that produce the commodities, such as Exxon (XOM), or invest in funds that include these companies. If you don’t want to put all your investing eggs into one commodity basket, you can diversify even more, thanks to mutual funds and ETFs that track indexes for a wide array of commodities.

MAGNIFI TIP: On Magnifi, typing “invest in commodities” in the search bar is a quick way to bring up funds that focus on specific commodities, such as silver or gas—as well as funds that track commodity indexes. Looking for funds that include specific companies is another quick search on Magnifi; for example, searching for “ETFs that include Exxon” brings up a number of funds to choose from.

You don't need to be an expert to invest.

What makes commodities volatile?

Commodity prices depend on supply and demand—and are even impacted by confidence levels around supply and demand. Boom times or low inflation can boost consumer confidence and demand, while recessions and high inflation rates can fan uncertainty and slow demand. Soaring prices or sudden drops can be sparked by government regulations, droughts, geopolitical conflicts, or city lockdowns, such as in China during the pandemic. The push for clean energy will shift the demand from fossil fuels to metals used for clean energy technologies.

Predicting the future can be a mixed bag, and has to be taken commodity by commodity. Fundamental changes in the energy sector and a weaker dollar are anticipated to boost commodities in the year to come. But, the rally isn’t expected to impact all commodities equally.

However, taken as a whole, commodities could continue to generate returns for investors. Using the S&P GSCI Total Return index, analysts at Goldman Sachs tracked a +42 percent return in 2021 and a +23 percent in 2022. They pointed to a possible return of +43 percent in 2023, thanks to the global rebound in growth, and in the U.S., the slowing of Federal reserve rate hikes (3).

Investors adding commodities to their portfolio may feel they have to buckle on a seatbelt to protect themselves from this volatile asset’s swings between supply and demand. But there are ways to invest in commodities that can help manage risk yet let leverage this asset’s growth potential, like mutual funds and ETFs that include a diverse group of raw materials and agricultural products.

Why Invest in Commodities?

Investors invest in commodities to help diversify their portfolios in order to protect against loss. Factors like supply and demand, exchange rates, inflation, and the general economic outlook can cause price fluctuations, and so commodities can be riskier than stocks and bonds. However, their upside is that they also have the potential to deliver above-average profits.

You can invest in commodities:

To diversify

Diversification does not guarantee profits, but historically, commodities and commodity stocks outperform stocks and bonds during unsteady markets, even when factoring in fluctuations from supply, demand, inflation, and more.

To protect against losses

Often, higher inflation means higher prices for commodities, which can balance a dip in other kinds of investments. For example, the Bloomberg Commodity Index tracked that a 1 percent rise in inflation produced a 9 percent rise in commodity prices (4).

To maximize gains

Global demand for commodities remains strong, despite changes in the global economy, exchange rates, and interest rates. Investors looking at stocks of commodity companies could see positive returns.

But take note of these downsides:

Risk to principal

The prices of commodities are vulnerable to things investors can’t control: world events, competition, tariffs, government regulations, and more. Also, the political, economic, and currency instability of emerging markets (where many of the commodities come from) is another exposure to risk.

Volatility

Investing in one commodity or even a mutual fund that tracks a single commodity means exposing yourself to high risk.

No dividends

Unlike many stock investments, commodities don’t produce income through dividends.

Ultimately, for the commodities market, the future continues to look bright. New solutions and new demands accelerated by the pandemic have driven markets to grow in new ways, including commodities. For the commodities market, growth goes hand in hand with risk, but for the savvy investor, it can be a winning combination.

How to Invest in Commodities

You can buy shares in companies that produce the commodities or invest in funds that include these companies, or you can diversify even more, thanks to mutual funds and ETFs that track indexes for a wide array of commodities. A search on Magnifi will bring up funds with an array of commodities, or you can refine your search by region or risk level.

Invest in commodities
Invest in commodities in North America
Invest in low risk commodities

References:

Albano, Alessandro, “Goldman Sachs says commodities may be best asset class in 2023,” December 15, 2022, Investing.com, https://www.investing.com/news/commodities-news/goldman-sachs-says-commodities-may-be-best-asset-class-in-2023-2965029.
Pino, Ivana, “What to know about commodities and how to invest in them,” December 5, 2022, Fortune.com, https://fortune.com/recommends/article/what-are-commodities/.

References:

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The information and data are as of December 28, 2028, unless otherwise noted and subject to change. This blog is sponsored by Magnifi.

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Mutual Funds and Exchange Traded Funds (ETF’s) are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from the Fund Company or your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

Diversification does not guarantee a profit or protect against a loss in a declining market. It is a method used to help manage investment risk.

Investments in commodities may have greater volatility than investments in traditional securities, particularly if the instruments involve leverage. The value of commodity-linked derivative instruments may be affected by changes in overall market movements, commodity index volatility, changes in interest rates or factors affecting a particular industry or commodity, such as drought, floods, weather, livestock disease, embargoes, tariffs and international economic, political and regulatory developments. Use of leveraged commodity-linked derivatives creates an opportunity for increased return but, at the same time, creates the possibility for greater loss.