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Asset location for commodities

Posted: Mon Oct 14, 2019 5:04 pm
by fyre4ce
I haven't seen this question answered in the forum or wiki, so I'll ask it here. What is the preferred asset location for commodities? It seems to me that a low-yield low-return high-volatility asset is perfect for a taxable account, where gains are taxable at a reduced rate and losses can be readily harvested. Lower long-term expected return means you're not sacrificing tax-advantaged space. I know there are different ways to invest in commodities, but two funds I'm somewhat familiar with (GLD and BGEIX) have behaved in this way. Is this correct or am I missing something? Thanks in advance.

Re: Asset location for commodities

Posted: Mon Oct 14, 2019 9:07 pm
by JAZZISCOOL
I do not have an allocation to commodities. The long-term expected return is only around 3.75% with 16.75% historical volatility (standard deviation; source: JPMorgan 2018.) Even with a decent correlation argument, the risk/return expectations aren’t compelling IMO. There is a modest premium over expected inflation but hard to justify with high volatility.

My sense is that a couple of the financial advisors who post on BH or someone like the doc over at White Coat Investor do not generally recommend that one allocates anything significant to commodities (perhaps with the exception of gold at a small allocation as I recall from listening to several podcasts.)

E.g.

In a 2016 Forbes article, the Allan Roth recommended portfolio allocation is as follows:

Allan Roth 4-fund portfolio (he uses ETF’s but mutual funds are also available on Vanguard); states this is fine allocation for a younger person or a retiree with $10 million in assets

40% VTI Vanguard Total Stock Market
20% VXUS Vanguard Total International Stock
30% BND Vanguard Total Bond Market
10% TIP iShares TIPS Bond (BlackRock’s version; Vanguard now offers at least one TIPS option; inflation protected)

https://www.forbes.com/sites/baldwin/20 ... 1122413e1d

I would imagine there are some advisors/money managers out there who may be more bullish on commodities. I’m sure other BH’s will chime in.

You may also want to review this thread discussing Vanguard’s new commodity fund. Some interesting thoughts.

viewtopic.php?t=277762

Your question was about asset "location" but my answer would not change (taxable or tax-deferred).

YMMV.

Re: Asset location for commodities

Posted: Mon Oct 14, 2019 10:37 pm
by stlutz
Depending on the fund, they can be complicated to deal with in taxable.

Here is a discussion about owning gold bullion ETFs in taxable: viewtopic.php?t=250680 .

Many ETFs (e.g. GSG) will cause you to get a K-1, which I've heard is a PITA vs. a regular 1099.

Re: Asset location for commodities

Posted: Mon Oct 14, 2019 11:04 pm
by retired@50
Based on what I've read about commodities, you shouldn't hold them at all, so the location is unimportant. Best of luck.

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 3:34 am
by Forester
Passive long Commodities are a waste of time, many reasons stated here: https://dualmomentum.net/2017/01/02/are ... versifier/

However, 5% gold equities, re-balanced periodically (for example GDX) wouldn't be a terrible idea: http://www.efficientfrontier.com/ef/adhoc/gold.htm

You could forgive yourself some market timing on gold too, since we're still a fair distance from the recent all-time high. Gold might not be cheap but it's probably not expensive either.

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 6:51 am
by Uncorrelated
Forester wrote:
Tue Oct 15, 2019 3:34 am
Commodities are a waste of time
5% gold equities [...] wouldn't be a terrible idea
How does that argument work? It sounds like you're saying that international investing is a waste of time, but volkswagen was worth it! It doesn't pass the sniff test for me. You're just market timing a specific commodify based on previous outperformance.

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 11:55 am
by fyre4ce
I appreciate the advice that commodities are not a good investment in general, but I'm trying to set that aside for the purposes of this thread, and asking more, in theory, what is the best location (not allocation) for commodity assets - basically asking whether taxable or tax-advantaged accounts are better place to put. I realize there can be different ways to invest in commodities (gold bullion, gold equities, futures, etc) so the answer may be different depending on precisely the type of asset.

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 11:59 am
by alex_686
I would start by figuring out what fund(s) you want to invest in. Different commodity funds are structured in different ways and thus kick of taxes in different ways. Stlutz is getting close, but that just applies to CSG. It matters if it pernicious metals or not, if it is physically held or not, etc. IIRC, there are about 6 different investment structures to chose from, each with it own tax quirks.

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 12:07 pm
by Valuethinker
Uncorrelated wrote:
Tue Oct 15, 2019 6:51 am
Forester wrote:
Tue Oct 15, 2019 3:34 am
Commodities are a waste of time
5% gold equities [...] wouldn't be a terrible idea
How does that argument work? It sounds like you're saying that international investing is a waste of time, but volkswagen was worth it! It doesn't pass the sniff test for me. You're just market timing a specific commodify based on previous outperformance.
Gold isn't really a commodity. Because it is not consumed, generally, the dynamics of gold are different.

I don't fully understand how the contango, backwardation and roll return work. These are not features of the gold market (particularly) which is mostly cash-spot I believe, but are important features of the case for investing in commodities, generally.

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 12:32 pm
by alex_686
Valuethinker wrote:
Tue Oct 15, 2019 12:07 pm
I don't fully understand how the contango, backwardation and roll return work. These are not features of the gold market (particularly) which is mostly cash-spot I believe, but are important features of the case for investing in commodities, generally.
They can feature very heavily. The critical distinction is if the fund is holding a physical asset or are using futures, not if it is a precious metal or agriculture commodities.

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 1:34 pm
by JAZZISCOOL
alex_686 wrote:
Tue Oct 15, 2019 11:59 am
I would start by figuring out what fund(s) you want to invest in. Different commodity funds are structured in different ways and thus kick of taxes in different ways. Stlutz is getting close, but that just applies to CSG. It matters if it pernicious metals or not, if it is physically held or not, etc. IIRC, there are about 6 different investment structures to chose from, each with it own tax quirks.
I agree you need to do your research.

Out of curiosity, I looked at the "tax cost ratio" of one PIMCO commodity fund that has a very long track record (the Schwab website has a lot of tax info for investments in a taxable account; other brokers should offer the same):

PIMCO Commodity Real Return Strategy Fund Institutional Class (PCRIX)

"Tax Cost Ratio" (RETURN REDUCTION DUE TO FEDERAL TAXES)

1 year 1.92%
3 years 2.31%
5 years 1.91%
10 years 2.57%

Per Schwab, the "Tax Cost Ratio" represents the percentage-point reduction in returns that results from Federal income taxes (before shares in the fund are sold, and assuming the highest Federal tax bracket). IMO, this would reinforce my belief that commodities don't belong in my portfolio and especially a taxable account. Turnover is very high at 226%! This reduction in annualized returns is worse than a "load fund" IMO (which have been shrinking for years).

PIMCO used to offer a retail version of this fund (PCRDX) but it seems like they closed it since no performance data is available (I wonder why?) This is 1 data point so YMMV.

PS - Not only has PCRIX lost -2.83% over the last 10 years (as of 9/30/19) but the Morningstar category Commodities Broad Basket (no load) has lost -4.84% over the last 10 years.

These options are the only funds rated 4 & 5 stars by Morningstar on Schwab's fund screener:

iShares Commodities Select Strategy ETF COMT:NASDAQ
WisdomTree Continuous Commodity Index Fund GCC:NYSE Arca

Both have also lost money since inception.

"Morningstar Category: Alternative

Broad Basket portfolios can invest in a diversified basket of commodity goods including but not limited to grains, minerals, metals, livestock, cotton, oils, sugar, coffee and cocoa. Investment can be made directly in physical assets or commodity linked derivative instruments, such as commodity swap agreements."

Re: Asset location for commodities

Posted: Tue Oct 15, 2019 3:07 pm
by Forester
Uncorrelated wrote:
Tue Oct 15, 2019 6:51 am
Forester wrote:
Tue Oct 15, 2019 3:34 am
Commodities are a waste of time
5% gold equities [...] wouldn't be a terrible idea
How does that argument work? It sounds like you're saying that international investing is a waste of time, but volkswagen was worth it! It doesn't pass the sniff test for me. You're just market timing a specific commodify based on previous outperformance.
Gold has a special role in the financial system and would behave differently to wheat, cattle, etc etc, if there was a global meltdown.

Re: Asset location for commodities

Posted: Wed Oct 16, 2019 12:57 pm
by retired@50
fyre4ce wrote:
Tue Oct 15, 2019 11:55 am
I appreciate the advice that commodities are not a good investment in general, but I'm trying to set that aside for the purposes of this thread, and asking more, in theory, what is the best location (not allocation) for commodity assets -
I don't understand this line of thinking. If you agree that commodities aren't a good investment, why pursue the location issue? To me it's like saying where would you like a pile of dog poop, in your living room or your kitchen? If the answer is "nowhere" then, case closed. Regards,

Re: Asset location for commodities

Posted: Wed Oct 16, 2019 3:06 pm
by fyre4ce
retired@50 wrote:
Wed Oct 16, 2019 12:57 pm
fyre4ce wrote:
Tue Oct 15, 2019 11:55 am
I appreciate the advice that commodities are not a good investment in general, but I'm trying to set that aside for the purposes of this thread, and asking more, in theory, what is the best location (not allocation) for commodity assets -
I don't understand this line of thinking. If you agree that commodities aren't a good investment, why pursue the location issue? To me it's like saying where would you like a pile of dog poop, in your living room or your kitchen? If the answer is "nowhere" then, case closed. Regards,
This is the investing theory forum, so isn't it fair to ask for help understanding how a major class of investment assets work? Most individual investors probably shouldn't be trading derivatives either, but would asking a question about how options work be similarly out of bounds?

In any case, I'm helping a friend, who does own commodities. He wants to keep holding them, and considering they have a large unrealized gain it's probably the right move.

Re: Asset location for commodities

Posted: Wed Oct 16, 2019 4:37 pm
by Random Musings
Forester wrote:
Tue Oct 15, 2019 3:34 am
Passive long Commodities are a waste of time, many reasons stated here: https://dualmomentum.net/2017/01/02/are ... versifier/

However, 5% gold equities, re-balanced periodically (for example GDX) wouldn't be a terrible idea: http://www.efficientfrontier.com/ef/adhoc/gold.htm

You could forgive yourself some market timing on gold too, since we're still a fair distance from the recent all-time high. Gold might not be cheap but it's probably not expensive either.
Wonder if their is a Coppock chart for gold (or gold stocks), as there is one the an index like the S&P 500. Never has seen one. That is a form of timing.

RM

Re: Asset location for commodities

Posted: Wed Oct 16, 2019 6:04 pm
by JAZZISCOOL
retired@50 wrote:
Wed Oct 16, 2019 12:57 pm
fyre4ce wrote:
Tue Oct 15, 2019 11:55 am
I appreciate the advice that commodities are not a good investment in general, but I'm trying to set that aside for the purposes of this thread, and asking more, in theory, what is the best location (not allocation) for commodity assets -
I don't understand this line of thinking. If you agree that commodities aren't a good investment, why pursue the location issue? To me it's like saying where would you like a pile of dog poop, in your living room or your kitchen? If the answer is "nowhere" then, case closed. Regards,
+1. Also, with all due respect, if the OP posted that he/she was "posting for a friend" with some unrealized gains in a taxable account in the initial post, it could have optimized the responses on this topic, IMO. :?

Re: Asset location for commodities

Posted: Wed Oct 16, 2019 6:18 pm
by nedsaid
I view commodities as insurance against inflation spikes, they would have been great during the 1970's Stagflation and during China's economic boom but otherwise seem to be a drag on returns. Not sure we will see a repeat of 1973-74 anytime soon as we seem to be trying to avoid deflation. Despite a very strong job market, inflation doesn't seem to be the problem right now. My allocation is ZERO percent. If I was willing to sacrifice a bit of return to guard against an inflation spike, it would be a worthwhile idea. I just don't see a big inflation threat.