ETF Expert

Technical analysts live by chart patterns. Me? I believe they make it easier to understand financial trends and shifts in market psychology.

There are times, however, when a chart may not offer information of value. For instance, it is simple to contrast the performance of commodities and stock assets over the last 6 months. One only needs to look at a picture of the iPath Dow Jones AIG Commodity Index (DJP) as it relates to the S&P 500 SPDR Trust (SPY).

Both exchange-traded index trackers are above their 200-day moving averages, which is a bullish sign for technicians. And both seem to have similar drawdowns of 10% from peaks to troughs.

However, here’s what the picture doesn’t tell you:

As I pointed out in a mid-September post, the iShares Dow Jones-AIG Commodity Index ETN (DJP) is uniquely "disconnected" from the broader U.S. stock and bond markets. The correlation between DJP and the S&P 500 SPDR (SPY) and the Lehman Aggregate Bond Index (AGG) is virtually non-existent over time, pegged at .09% and 02% respectively.

In brief, commodities move independently of other asset classes (e.g., stocks, bonds, currencies, etc.). And that means you get to diversify your portfolio by using an all-encompassing commodities basket like the iShares Dow Jones-AIG Commodity Index ETN (DJP).

So once again, the chart above doesn’t tell you about the ways in which commodity exposure can diversify an investment portfolio. Nor does it give you a better idea about the viability of the all-commodity approach versus a non-diversified commodity approach.

For example, due to the increased popularity of exchange-traded commodity investing, Barclay’s Bank has introduced a variety of brand new individual commodity indexes. You can invest in grain commodities through the iPath Dow Jones-AIG Grains Total Return Index (JJG). You can invest in the industrial metals arena through the Dow Jones AIG Industrial Metals Total Return Index (JJM). You can even invest in livestock through the Dow Jones AIG Livestock Index (COW). And, yes… that is the ticker symbol!

Of course, investors are no strangers to the ways in which they invest in a barrel of oil, including the United States Oil Trust (USO) and theiPath S&P GSCI Crude Oil Total Return Index (OIL). Nor have they missed out on the precious metals like streetTracks Gold Shares (GLD).

Grains, metals, oil, livestock — should you hold them individually? Or is it better to use the all-in-one commodity index, the Dow Jones AIG Total Commodity Index (DJP)? That’s not a question that one may best answer with a chart or a graph.

How should you decide? In truth, the decision is similar to your feelings about individual securities, sub-sectors, sectors and broad-based indexes.

Over the last 10 years, oil has produced a 14.5% annual return. Industrial metals have provided a 12.9% 10-year return. Grains and livestock, on the other hand, have lost 1.4 and 1.7% each year for 10 years.

If you think you have a knack for knowing which commodities will come into favor at what time… well, then… you might go for it. But if you like the idea of broad-based portfolio diversification and a 10-year 7.6% return, the best route to your success is the the Dow Jones AIG Total Commodity Index (DJP).

Disclosure Statement: ETF Expert is a web log ("blog") that makes the world of ETFs easier to understand. Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC, may hold positions in the ETFs, mutual funds and/or index funds mentioned above. Investors who are interested in money management services may visit the Pacific Park Financial, Inc. web site.