Trading Commodities – Still a Buy for Now

By Dr. Steve Sjuggerud, President, Investment U
Thursday, October 7, 2004: Issue #376

“Trading commodities is hot and it doesn’t look like it’s going to cool off anytime soon” IU E-Letter, August 29, 2003

Here in Buenos Aires, Argentina, I sat down with the head of Argentine operations of a commodity-producing company with more than $20 billion in metals (copper and gold) in the ground in Argentina.

Business is good. The price of copper has nearly doubled since I wrote that Investment U E-Letter over a year ago, urging you to invest in commodities like this company mines.

Two major points about trading commodities

• When they soar, they soar. If there is strong demand and limited supply, prices rise dramatically. And since there has been very little exploration in recent years in most commodities, supplies are limited at the moment.
• The big picture is that commodity prices fall over the long run. Commodity prices have fallen by 80% over the last 150 years in real terms, according to the latest issue of The Economist.

As Humans Innovate, Prices Drop

Human innovation has consistently driven the prices of commodities lower, as we increase crop yields or come up with cheaper alternatives.

But the immediate future looks bright. (The chart below shows how the Dow Jones AIG Commodity Index has outperformed the Nasdaq (IXIC) and S&P (GSPC) for the past five years.)

This Argentine businessman is now getting regular visits from Chinese, Korean, and Japanese businessmen, eager to do whatever it takes to secure their supply of copper for years to come.

As always, when you extrapolate the future when considering the Chinese, the numbers get silly fast. According to the latest issue of the Economist:

“In around 20 years’ time, China’s income per person could be close to South Korea’s today. If its energy consumption per person also rose to South Korean levels, its energy demand would quadruple. This increase alone would be greater than America’s total consumption today if China’s consumption of raw materials and energy per person were to rise to rich country levels, the world simply would not have the resources to supply them.”

Three Resources I Like Regarding Trading Commodities

So what can you do?

At the very least, you ought to consider having at minimum 5% of your portfolio in commodities. Here are a few things to consider when trading commodities

• An excellent, safe, diversified way to get into trading commodities is through PIMCO’s commodity index fund. Learn more about it at http://www.pimco.com
• Frank Holmes of U.S. Global Funds offers a few commodity-related funds that have shown excellent performance. Frank also has a nice research report on China available for free on his company’s website. Check it out at http://www.usfunds.com

Again, keep these two facts in mind: First, commodities are in a bull market that could last for many more years, as a supply/demand imbalance persists. Second, in the long run, due to human innovation and due to a return to balance in supply and demand, commodity prices generally fall in real terms. Which is another reason you shouldn’t put too much of your portfolio into these investments, as strong as they look now.

Good investing,

Steve

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