With investors turning to commodity-based investment vehicles in response to recent market turmoil, U.S. derivatives regulators issued an alert about the added risks of buying into these sorts of trading instruments.
The U.S. Commodity Futures Trading Commission (CFTC) said that investors are increasingly utilizing commodity-linked products, such as ETFs and exchange-traded products, in an effort to capitalize on the rebound in beaten down markets or to diversify their portfolios.
The CFTC alert warns investors about the “unique risks” of dealing in these sorts of products, including that they are fundamentally different from securities.
For instance, the value of the shares in a commodity pool may not track the value of the underlying asset over time. “Unlike with stocks, a futures contract cannot be held indefinitely in hopes that a fallen price will recover,” it said.
Moreover, “rising commodity prices may actually create a drag on commodity pool annual returns,” it said, given the reality of maintaining a commodity position through futures contracts.
Additionally, energy commodities and related futures contracts include supply and storage risks, whereas agricultural commodities face weather-related risks. Metals are generally impacted by industrial and macroeconomic factors.
There’s also a risk that “the pool’s holdings or strategies could shift to compensate for changes in market conditions.”
Other considerations for investors include fees and expenses, performance reporting, and redemption information.
“Now more than ever, it is important for Main Street investors to understand how our futures markets work when they go to evaluate their investment choices,” said Joshua Sterling, director of the CFTC’s division of swap dealer and intermediary oversight, in a statement.