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Investing in Commodities, Tip 6: Diversification Is Not A Given


Always look deep into a commodity's price drivers.

One of the primary reasons for investing in commodities is the diversification benefits that they offer. In most cases, it is safe to assume that commodities will generally move on their own, apart from markets, as they typically have completely different price drivers. However, diversification is never a guarantee and is something that investors should always look into. A perfect example comes from gold and silver, two of the most popular commodities in the world.

Investors have been using these precious metals as safe havens for years, but these assets have actually featured a high correlation to major benchmarks over certain periods of time. In 2008, 2009, and 2010, both gold and silver featured a correlation of more than 0.57 to the S&P 500, which is a score that hardly qualifies as diversified. The highest correlations came in 2009 when gold scored a 0.78 and silver scored a 0.84. The lesson here is quite simple: Just because you have invested in commodities does not mean that you are properly diversified. It is important to always look under the hood of your positions and analyze their behavior.

Bottom Line: Diversification is not a guarantee; always look deeper into a commodity's price drivers.

This article is part of the series "Tips for Investing in Commodities." See also:

Tip 1: Futures Do Not Equal Spot

Tip 2: Commodities and Dividends Can Align

Tip 3: Watch Your Tax Rates

Tip 4: China Can Make or Break You

Tip 5: Low Inventories Can Lead to Backwardation

Tip 7: Rolling Front Month Futures Is a Recipe for Disaster

Tip 8: More Than Just Energy and Gold

Tip 9: Watch Out for That K-1!

Tip 10: Consider Expenses Always

Tip 11: Commodity Exposure Through Stocks: Pros & Cons

Tip 12: Know What You're Getting Into

Tip 13: Consider Physical Exposure

Tip 14: Commodity ETFs: Structure Matters

Tip 15: Bigger Does Not Mean Better

Tip 16: Commodity ETFs Get a Bad Rap

Tip 17: Beware the Dollar's Impact

Tip 18: Not All Commodities Are Created Equal

Tip 19: Know Your Geography

Tip 20: Be Mindful of Your Timing

Tip 21: Platinum and Palladium Are the Other Precious Metals

Tip 22: Consider the COT Report

Tip 23: Remember That You Also Have Options

Tip 24: NAGS Vs. UNG -- Different Tools for Different Objectives

Tip 25: Free Resources Can Make Your Life Easier

Follow us on Twitter @CommodityHQ!

Editor's note: This article by Jared Cummans was originally published on Commodity HQ.
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