Indexology^® Blog

Commodities have faced many headwinds this year from the strong U.S. dollar, high supply from OPEC and the slowing Chinese demand growth. The S&P GSCI Total Return hit a 15 year low in August, 23 of 24 commodities dropped in July and the 3rd quarter was the 3rd worst in history. For the year, all sectors are negative and all commodities are negative but one – that is cocoa.  However, cocoa may not stay hot for long.

In a note published a few months ago, agriculture was identified as the sector that performed best in periods following El Niño, and the performance is getting stronger through time with each successive El Niño.  Since that note, several questions have come in about which commodities inside the agriculture sector will perform best following the El Niño.

Below are some of the most popular questions with historical analysis of data going back to 1973 where available.  Cotton starts in 1977, Coffee in 1983, Cocoa in 1988 and Kansas Wheat in 2003. The El Niño data is from NOAA. In this analysis, there are 13 El Niño periods ending 1973, 1977, 1978, 1980, 1983, 1988, 1992, 1995, 1998, 2003, 2005, 2007, 2010. Below is a table of spot returns of commodities in the agriculture sector of the S&P GSCI:

• Which agricultural commodity is affected the most from El Niño? Generally, the volatile weather brought by El Niño has disrupted the crop yields that has pushed prices higher. Wheat and Kansas Wheat have historically been most impacted, though all agricultural commodity returns have benefitted from El Niño except cocoa.

• Following the previous question, what kinds of agricultural commodities have gained or dropped due to El Niño? Why is that and what’s the price fluctuation range respectively? In order of highest average historical return in the 12 months following El Niño: Kansas Wheat, Wheat, Corn, Soybeans, Sugar, Coffee and Cotton. Only Cocoa has dropped historically following El Niño periods. In the 12 months following El Niño periods, cocoa has lost on average 35 basis points and Kansas Wheat has gained on average 72%. It depends on the specific weather pattern impacting supply, individual demand models per commodity, perishability and storage capacity.

• For those affected commodities, how long does it take to show the price spike/plunge after the effect occurs? For most of the agricultural commodities, the price increases start happening soon after the El Niño. Cotton is the slowest to be impacted, taking over 3 months post the El Niño periods. Wheat is the quickest to be impacted, followed by corn. Again, cocoa doesn’t perform any better from El Niño periods.

• Is there any signs based on which investors can determine the timing for investment? The main signal has been detrimental weather that disrupts the crop production. Watching weather patterns in regions where the specific crops grow and learning how supply is disrupted helps determine timing. It is important not to forget other drivers of supply and demand, like the imbalance of powder to butter in the cocoa market from the demand growth of high-end chocolate.

• This year’s El Niño is considered to be the strongest in decades, what’s your suggestion to investors to prepare for the climate impact?  Historically, investors and consumers protect themselves in different ways. In some cases, food processors hedge so the price impact does not flow to the retail consumers. In other cases, investors may use agriculture and other inflation sensitive commodities to diversify their risk. Last, some consumers have protected themselves by buying frozen goods and storing them until prices return to lower levels.

The Dow Jones Industrial Average ended September at 16,284.70 – down 1,538.37 points year to date for a -8.63% return. Q3 2015 was the worst calendar quarter since Q3 2011.

• Leader & Laggard – Nike (NKE) was the biggest contributor during Q3; Goldman Sachs (GS) was the biggest detractor.
• Industry Performance – the Consumer Goods industry was the best (and, frankly, only) contributor during the period; Industrials the worst.
• Worst Day (In Points & Percent) – down 588.40 points or -3.57% – on August 24th. While bad – the worst 1 day loss since August 2011 – it could have been worse: the DJIA was down over 1,000 points in early trading before recovering.
• Best Day (In Points & Percent) – a mere two days later, on August 26th, the DJIA finished up 619.07 points or 3.95% as investors were drawn back to the markets following a period of panic selling.
• No New Highs – Q3 saw no new highs for the DJIA, the last having been struck on May 19, 2015.

Download the full report

In recent years, passive management has had an increasingly strong foothold, with a sharp rise in assets under management (AUM). According to PricewaterhouseCoopers Asset Management’s 2020 report, the AUM of global passive investments stood at USD 7.3 trillion as of 2012, and they are expected to grow to USD 22.7 trillion by 2020. The active versus passive debate has been raging on for years, with compelling opinions on both sides. S&P Dow Jones Indices has been publishing the SPIVA^® report across regions as an independent arbiter of this debate. The latest research paper seeks to cover questions frequently raised by our readership that are not addressed in our usual publications.

• What is the trend and impact of fees on investment returns? Is it uniform across different markets?
• Are active managers in some markets more efficient than their peers in other markets? How do they fare across different geographies and across different investment styles?
• Do AUM play a role in the overall performance of active managers? If yes, is it consistent across markets?

In our most recent report, we found that over the past five years ending in 2014, active funds levied higher charges, at least double those of passive funds, regardless of where the funds were domiciled. The active management fee in the developed world witnessed a general downward trend over the same five-year period.

The active versus passive debate is ongoing, and the empirical results obtained with such reports can provide statistics that back up one’s contentions. To find out more, please download the full report.

The S&P GSCI Total Return lost 19.3% in the third quarter of 2015. This was the 5th worst quarter and the 3rd worst 3rd quarter for commodities in history since 1970. Historically worse quarters were: Q4 2008 (-47.0%,) Q3 2008 (-28.6%,) Q4 2014 (-27.7%,) and Q3 1976 (-20.2%.) In total, there have been 183 quarters where 67 were negative and 116 were positive. On average, there was a gain of 8.6% in positive quarters and a loss of 8.2% in negative quarters. Historically, the 3rd quarter has been the most profitable, gaining an average of 4.3% but has also been the most volatile with annualized volatility of 28%. The best quarter ever was also a 3rd quarter that happened in 1990 and returned 55.2%.  Only the 4th quarters on average have been negative, losing on average 0.4%. There is no guarantee of a rebound as the quarters following the four worst quarters on record (that were worse than this one,) lost 10.6% (Q1 2009), lost 47.0% (Q4 2008,) lost 8.2% (Q1 2015,) and gained 5.2% (Q4 1976.)

For the quarter, 23 of 24 commodities posted negative returns, which only happened once before in Q3 2008. It is a drastic change from Q2 2015, the prior quarter, when only 11 commodities were negative. Below are charts of the percentage of negative and positive commodities (since the number of commodities has not always been 24 like today) quarterly through history:Source: S&P Dow Jones IndicesSource: S&P Dow Jones Indices

The S&P GSCI Lean Hogs was the only winner for the quarter and gained 13.4%. Back in Q3 of 2008, the S&P GSCI Lead was the only winner.  The S&P GSCI Feeder Cattle was the only single commodity index to set a losing record return this quarter, losing 17.2%. However, one quarter of the 24 single commodities were notable quarterly losers posting losses worse than 20%: crude oil (-26.9%,) brent crude (-26.5%,) Kansas wheat (-21.2%,) unleaded gasoline (-21.0%,) heating oil (-20.9%,) and gasoil (-20.7%.) Some single commodities in the index also had their biggest losses in quite a long time: live cattle (-14.6%, worst since Q4 2008,) zinc (-15.9%, worst since Q3 2011,) and copper (-10.2%) and aluminum (-7.9%) each lost most since Q2 2013.

Year-to-date through September, 2015 is the 3rd worst year recorded, losing 19.5%. Only 2001 and 1998 were worse ytd through Q3, losing 23.2% and 21.9%, respectively. Now the S&P GSCI Total Return is on track to record its 6th worst year after 2008 (-46.5%,) 1998 (-35.8%,) 2014 (-33.1%,) 2001 (-31.9%) and 1981 (-23.0%.) Perhaps some good news for 2016 is that in the years following these historical losses, returns were positive 13.5%, 40.9%, 32.1% and 11.6%, respectively, in 2009, 1999, 2002 and 1982.

To hear the best calls for the coming year, please tune into our expert panel from the S&P Dow Jones Indices 9th annual commodity seminar.

The Asia-Pacific region is the third-largest ETF market in the world, after the U.S. and Europe. Despite the fact that the ETFs listed in the Asia-Pacific region represent less than 10% of global ETF assets, the region’s asset growth rate has outpaced the two former leaders and is now ranked at the top.

The Asia-Pacific ETF market is quite scattered, with ETFs listed across different countries.  By AUM, Japan has a dominant position in the Asia-Pacific ETF market (see Exhibit 1).  However, the significant growth potential of Hong Kong and China cannot be underestimated.  The exchanges in Hong Kong and China have recorded the highest ETF turnovers among their peers, at USD 38 billion and USD 157 billion, respectively (see Exhibit 2).  The emergence of cross-border initiatives, including Mainland-Hong Kong Mutual Recognition of Funds (Mutual Recognition) and Shenzhen-Hong Kong Stock Connect (SZ-HK Connect), could also serve as a catalyst for the growth of Hong Kong’s and China’s ETF markets.

Expanding Footprints to Other Markets
The Mutual Recognition and SZ-HK Connect programs are setting the stage for Hong Kong- and China-listed ETFs to penetrate the other markets.  The Mutual Recognition program allows eligible and approved mainland China and Hong Kong funds and ETFs to be offered to each other’s markets.  Similarly, the SZ-HK Connect program would allow eligible shares listed on the Shenzhen Stock Exchange and the Hong Kong Stock Exchange to be offered to the other markets (and could potentially include ETFs).  These two arrangements could open more opportunities for cross-border ETF distribution to retail investors and potentially help boost their sales momentum.

Stimulating ETF Market Growth
The Hong Kong ETF market is more diverse than the Chinese ETF market in terms of product offerings, and hence the southbound flow could benefit more from the cross-border initiatives.  On top of the strong product lineup of local Hong Kong and A-shares ETFs, Hong Kong has also showcased a variety of ETFs covering different geographies, sectors, and asset classes.

The China A-shares market has become volatile this year, which is a concern for many investors in mainland China.  To diversify their risk out of the A-share market, investors may look for investment products that provide overseas exposure.  Hong Kong-listed ETFs could be a good tool for them to access markets outside of China.

Furthermore, the cross-border initiatives could accelerate the development of China’s ETF market.  China-listed ETFs will be facing direct competition from their Hong Kong counterparts that are well-regulated and more advanced in terms of market making, product diversification, investor education, etc.  In order to become more competitive and keep abreast of the global standard, China’s ETF market could be enhanced in order to attract more inflow over the long term.