Big Problems with commodity ETF funds

[MasterBlaster]

Business week ran an article last week showing how ETF commodity funds are being Cherry Picked by commodity traders.

Evidently these commodity ETF funds trade in and out of short term commodity contracts every month on only certain days (eg. the 5th-10th of each month). The traders trade against such buys/sells and make big money on these automated programs much to the detriment of anyone holding commodity ETFs. This is a rigged game that goes by the name Contago.

Lured by the idea of profiting from raw materials, investors put $277 billion into commodity ETFs and related securities by the end of 2009. Then they noticed a problem: When commodities go up, the commodity ETFs often don't

Amber Waves of Pain - BusinessWeek

 

[Culture]

If you ever wondered if you should not invest in product that you do not understand, this article will answer the question. Amazing.

 

[Gone4Good]

Yup, these commodity funds haven't worked out as people hoped for a variety of reasons. My favorite is the persistent contago in the market that forces these funds to buy the forward month at a high price and settle it closer to the lower prompt month price. All the historic studies showing how beneficial commodity forwards were to portfolios looked at periods dominated by backwardation. Many academics assumed that backwardation was a structural feature of the market and that it was free money to be harvested by investors as "insurance premiums." It's funny how things stop working the way they used to once investment products or strategies become mainstream. Now instead of receiving the premium, investors are paying them. Ha.

 

[Culture]

I think this is related to Efficient Market Hypothesis. You can't make money on a given efficiency once people realize you can make money on it.

 

[chinaco]

Thanks for the link.

 

[Culture]

Make that:

"I think this is related to Efficient Market Hypothesis. You can't make money on a given inefficiency once people realize you can make money on it."