Varying Results for Three Commodity ETFs
July 8, 2008
 
SAN DIEGO (ETFguide.com) - We've already passed the halfway point of the year and commodity linked exchange-traded funds (ETFs) remain among the best performing investment category.

The iShares S&P GSCI Commodity Index Fund (Ticker: GSG) has gained 44.8 percent, the PowerShares DB Commodity Index Tracking Fund (Ticker: DBC) has jumped by 47.1 percent and the Greenhaven Continuous Commodity Index Fund (Ticker: GCC) is ahead by 21.9 percent.*

Some investors are apt to ask the following: If each of these ETFs follows the same general group of commodities, then why are they posting different performance results?

Let's take a closer look to find the reasons.

Even though the ETFs mentioned above attempt to capture the performance of a broad collection of commodities, the investment strategy of each is quite different.

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In fact, by using ETFguide.com's online tool called Index Strategy Boxes™ you will plainly see that all three of these commodity ETFs has a distinct method for selecting and weighting commodity futures within their respective indices. This will explain one of the major reasons for the diverging performance results.

Comparing GSG and GCC reveals that both funds use the same passive method for selecting commodities. But that's where the differences end.

GSG, which follows the popular S&P GSCI Total Return Index, is weighted by world-production, meaning the quantity of each commodity in the index is determined by the average quantity of production over the last five years.

The S&P GSCI contains 24 commodities from key commodity sectors including energy, industrial metals, agricultural products, livestock and precious metals. Through the second quarter, GSG's exposure to energy commodities was a whopping 73.61 percent, which also explains the fund's hot performance. Soaring crude oil and gasoline prices have been driving GSG's share price to higher ground.

By contrast, GCC follows the Continuous Commodity Index Total Return (CCI-TR) from Reuters, which is an equal weighted basket of 17 commodities including wheat, gold, crude oil, along with others. Within CCI-TR, the sector weights are: Energy 17.64 percent, grains 17.64 percent, livestock 11.76 percent, softs 29.40 percent, and metals 23.52 percent.

Having less exposure to energy commodities has resulted in year-to-date underperformance for GCC. Conversely, when energy begins to cool, GCC is less likely to suffer a major setback compared to its peers. Also, keep in mind that GCC was launched at the end of January and lacks performance results for the first few weeks of the year.

DBC follows the DB Liquid Commodity Index - Optimum Yield Excess Return, which has a completely different formula for selecting and weighting commodities.

Instead of selecting a broad basket of commodities, DBC's underlying index is composed of futures contracts on just six commodities and weighted as such: Light sweet crude oil (35 percent), Heating Oil (20 percent), Gold (10 percent), Aluminum (12.5 percent), Corn (11.25 percent), and Wheat (11.25 percent). DBC effectively has 55 percent of its exposure weighted to energy commodities. Even though DBC's modified equal weighting strategy is different compared to its peers, its high exposure to the energy commodity sector explains its hot performance.

This sums up an abbreviated review of why ETFs tracking the same group of commodities are acting different.

If you're going to make informed investment decisions about commodity funds or notes, it's vital that you clearly understand what the indexes behind these financial products are doing. How are they selecting and weighting commodities? And how does that affect the underlying weights to each commodity sector? And lastly, how will it impact performance?

Index Strategy Boxes™ are a simple visual tool that helps you to understand all of this.

So the next time you notice a variance in performance with index ETFs or ETNs in the same investment category, there's a better than good chance it's attributable to a fund's index strategy.

*YTD performance through July 3, 2008

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