October 3, 2019 | Written by ARIA Capital Management
It’s a valuation anomaly that has provided significant opportunities historically. With over 12.5trn of global debt now negativelyyielding*, i.e. offering ‘minus interest yields’, investors are clearly not braced for inflationary surprises on the upside. In short, whenever commodities have been so undervalued relative to the US stock market as they are now, it has signalled a major trend change.
The chart below tracks the S&P GSCI index – it captures the prices for 24 traded commodities, relative to the S&P 500 stock market. We’ve added significant historical events as some reference points. It is yet to be seen what label could be added to where we stand now….a particular ‘event’, but there are a few potential candidates already known to us, including recent noises from the European Central Bank and the US Federal Reserve, in what could be seen in retrospect, as announcing QE4.
The chart shows how when the blue line is rising commodities are becoming more expensive relative to the US stock market, and conversely when commodities are falling they are becoming cheaper relative to the US equity market.
As can be seen from the green circles, this has historically been an excellent time to increase exposure to commodities. To our mind, the same argument could be made more generally for inflation sensitive assets.
The last two occasions in which we had reached such an entry point were in 1971 – when President Nixon ended the gold standard, and 1999 which of course trumpeted the peak of the dot com boom. On both occasions, when commodities were so historically undervalued compared to stock markets, commodities began screaming rallies.
Between 1971 to 1974, the S&P GSCI – a good proxy for commodity prices more generally, gained over 370%. More recently, from the end of the tech bubble, through to 2008, the index which also acts as a proxy for real assets, witnessed a rally of over 450%.
Of course, commodities have also fared poorly when they have been historically overvalued compared to financial assets. In 1990, the Gulf War marked the high point, as did the global financial crisis. However, as we stand, the ratio of the S&P GSCI to the S&P 500 is approximately less than 25% its average over the last 50 years or so, going back to 1970, underscoring what could be another attractive entry point.
Put differently, the argument can be made that commodities and real assets more generally are approximately 75% below their average price relationship during the past half century. In fact, the current ratio sits below those occasions in the early 1970’s and early 2000’s that led to such huge gains.
Gaining exposure to commodities is not necessarily straight forward. There are passive exposures, such as Exchange Traded Notes, (similar in nature to Exchange Traded Funds), but these are generally much more expensive when tracking commodities as opposed to equity ETF’s, and their prices can often trail the price of the underlying commodity, as a consequence in having to constantly reinvest in the latest commodity futures contracts which expire monthly.
The ARIA Real Asset Income Fund (RAIF) may offer a convenient alternative. A UCITS 5 open ended fund, It is focussed on investing into real assets, liquid asset backed investments, with significant commodity exposure. Furthermore, it targets investments into commodity related investments that pay out an attractive income too that could increase too should commodity prices rise. Not only does RAIF bring exposure to real assets and commodities, at what could be a very opportune moment historically, but also it targets a 6% per annum income, paid quarterly.
To find out more about the ARIA Real Asset Income Fund please email firstname.lastname@example.org.