#459 - Should I Invest in Commodity ETFs to Fight Inflation?

If the bear market and inflation may have you worried, a bit of productive paranoia with a tinge of optimism may see you through. On this episode of Retirement Answer Man, we’ll discuss upcoming monthly themes, the next Retirement Plan Live case study, and ideas for new segments for the show. You’ll also hear answers to several listener questions. Today we’re putting our geek hats on to discuss commodity ETFs, perpetual withdrawal rates, single-pay annuities, and how to mix compounding with growth. Press play to get started.

“Today we’re putting our geek hats on to discuss commodity ETFs, perpetual withdrawal rates, single-pay annuities, and how to mix compounding with growth.”

What is a commodity?

During this bear market, people are becoming curious about different types of investments. Keith would like to know more about investing in commodity ETFs that follow the indices as a way to hedge against inflation. His big question is, should he invest in commodity ETFs to fight inflation? Before we can answer that question, we need to define what commodities are.

A commodity is a hard good with economic value that is used to create products. Commodities are a capital gain type of investment that don’t produce any dividends and therefore don’t have a compounding effect.

One of the attractions of commodities is that they aren’t correlated with other types of assets. Since interest rates and inflation are rising, commodities have become more appealing. They have the added benefit of not behaving in the way that stocks behave.

How to invest in commodities

There are a few ways that people can invest in commodities. They can buy the commodity directly and hold on to it. However, this creates the issue of how to store it.

Another way to invest in commodities is to buy shares in companies that manage commodities. One example is Exxon, but since Exxon is an equity as well, that means that shares of Exxon are not pure commodities.

To get more purity, people look for ways to follow the commodities’ indices. Since we can’t actually buy an index, we could buy an ETF that replicates the index to gain exposure in that market. Popular ETFs use financial instruments like futures contracts and swaps to simulate ownership.

“Since we can’t actually buy an index, we could buy an ETF that replicates the index to gain exposure in that market.”

Do commodities have a place in a retirement portfolio?

While I’m not opposed to having commodities as a part of a diversified portfolio, it is important to first ask yourself a few questions.

Which vehicle will you use? Which commodities will you track? Make sure that you don’t just choose one. You’ll want to ensure that you have a basket of commodities even though it will add a bit more complexity.

How much do you plan to allocate? What is the right percentage? You’ll want to purchase enough so that it makes a dent in your portfolio, but it is important to recognize that commodities are volatile compared to other asset classes. Commodities can move drastically in one direction or another based on many factors. Allocating 5-10% in a growth-oriented portfolio might work, but will it really make a difference?

Understand that adding commodities to your portfolio is a long-term decision. If you do add them then stick to your decision. If you don’t, then you negate the idea of asset allocation.

It is important to find a process that is right for you and stick to it consistently. Adding commodities into your portfolio can be a useful hedge against inflation, as long as they are used as part of your long-term investment process.

“Adding commodities into your portfolio can be a useful hedge against inflation, as long as they are used as part of your long-term investment process.”