Commodity investment: Good or bad?

Thu, 6 Jan Pre-Open

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We are already sixth day into The New Year. But the game of predictions is still going on full throttle it seems. This is especially true of the financial markets. Latest to hop aboard the train is the Vanguard founder and a strong proponent of index investing, Jack Bogle. Apparently, Mr. Bogle sees a healthy market for stocks ahead in 2011.

"With a 2 percent dividend yield, and maybe 7 percent earnings growth, that would give you 9 percent total return on the market this year, and I would consider that a very satisfactory year," Bogle, one of the titans of the US mutual fund industry is believed to have said.

However, he did not stop at equities. Bogle also had a word or two reserved for commodities. And mind you, these were not very pleasant words. Bogle has warned investors against commodities.

He believes that while stock investments are based on dividends and earnings growth year after year, the same is not true of commodities. He further added that there is no such thing as internal rate of return on commodities. One has nothing to support commodity prices and the only way to profit from them is to sell them off to someone at a higher price. Hence, in view of these factors, commodities are rank speculation as per him.

Make no mistake, we respect Bogle for his views on index investing and he could be right about equities as well. But we do not quite agree with his views on commodities.

As per us, just because a stock has dividends and earnings growth and commodities do not have it does not make the former an investment avenue and latter a source of speculation.

Equities no doubt have intrinsic values and also have earnings growth but it should be noted that their price fluctuations are as random and extreme as commodities and may be even more. Hence, equities are also subject to speculation just as commodities.

We believe that it should not boil down to the nature of the underlying asset. As long as there are some strong fundamentals in place, investment in both a stock as well as a commodity should be considered. Agree that a stock will have its EPS that will tell us whether the current price we are paying for it is attractive for not.

Similarly, a very long term price trend of a commodity can tell us whether the commodity under consideration has given positive returns in real terms at all. If the answer is no and if the demand/supply situation is in favour of a higher price, investment in the underlying commodity can also fetch good returns and can be called an investment based on fundamentals rather than just speculation. Thus, it does not matter whether we invest in a commodity or a stock. As long as the asset is within our circle of competence and the fundamentals are in place, the trigger should be pulled. Otherwise, investors are in danger of missing out on a strong price rally. Like the one in gold and silver over the past decade.