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Sector Watch: Commodities

Daniel Lane

Daniel Lane - Fidelity Personal Investing

With the US-China trade war continuing to make slow progress, commodities are now firmly back in vogue. Is the sector set to take off and what’s driving the outlook for materials across the spectrum?

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For investors looking for answers, here’s your need to know about the sector and how commodities might fit into your portfolio:

Why commodities?

One of the primary reasons to include commodities in your portfolio is diversification. Holding a range of assets that act differently from each other can help manage volatility. It’s all about keeping at least some cylinders firing at any one time - uncorrelated assets are a good way to do this.

What’s more, commodity producers often raise their prices in line with inflation because their cost of production goes up, so holding the commodity gives investors a way of hedging against the effects of inflation. We may have had record low interest rates since the financial crisis and their trajectories might be uncertain in the short term but few would disagree that central banks will look to normalise them over the long run.  

Where investors want exposure to specific industries or regions, commodities can be a good way to get involved, for example high demand for resources over the past few years due to massive global infrastructure projects has had a big impact on commodity prices. Moreover, commodities can give market exposure where investors have a view on supply and demand, inventories and exchange rates.

What’s happening at the moment?

While 2018 was far from a stellar year for most commodities, metals prices performed well in the final few months thanks to demand particularly in infrastructure, property and manufacturing as well as supply constraints brought in by the Chinese government. 

Arguably, these trade disputes are about who will lead global innovation in the 21st century. However new technologies, be they robots or autonomous cars, still need basic resources so long-term exposure to the sector could iron out any short-term blips from tariff announcements. 

There is also positivity around how important copper is to the development of green energy. Wind farms, electric vehicles and hybrid generators all make substantial use of copper and as we move towards cleaner energy we’ll only need more.

What to keep in mind

Commodities are a mixed bag. Whereas we used to trust China to hoover up global supply, more recent attempts to reduce pollution and debt fuelled investment, as well as US trade tariffs, have weakened their demand for the likes of oil and iron ore. This all means investors have to contend with a bit more volatility than before. 

World events, government regulation and changes to the global economy all have an impact on commodity prices and can be hard to gauge in advance. While investors in most equity sectors will take Buffett’s advice and look to the state of their businesses over the state of the world, commodity investors can never really take their eye off it.

What’s a good way to invest in commodities?

Investors can head straight for a physical commodity like precious metal bullion but the international nature of the UK market means you can find a lot of global commodity names in the FTSE 100 too. Multinationals like Glencore, Anglo American and Antofagasta are there for investors wanting direct exposure to these companies’ shares.

For a more diversified approach, a mutual fund could be a more suitable option. 

The Investec Global Gold Fund, part of the Fidelity Select 50, is a pure commodities fund but lift the bonnet on a range of other funds and you’ll find indirect exposure to the sector through oil producers and mining companies.

The likes of the Liontrust UK Growth Fund and the Majedie UK Equity Fund both hold Royal Dutch Shell and BP, with the JOHCM UK Equity Income Fund holding the big oil names plus Glencore. While not commodity-focused funds, they hold the big players in the sector often due to their quite significant dividends.

Another way funds access commodities is through companies servicing the sector. In the same way that Levi Strauss clothed the gold rush, the likes of Weir Group, held in the Threadneedle UK Mid 250 Fund, benefits from greater focus on mining across the board, as it designs and manufacturers ancillary equipment to be used in oil and gas markets. 

Important information

The value of investments and the income from them can go down as well as up, so you may get back less than you invest. Overseas investments will be affected by movements in currency exchange rates. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. Select 50 is not a personal recommendation to buy or sell a fund. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.