Naturally Occurring Investments

By Nancy Zambell, Contributing Editor

While the stock market has seen plenty of erratic days - hundreds of points up and hundreds of points down - since the tech rout of 2001, there is one sector that has been on a tear for the past five years. Represented by the Reuters-CRB index of 19 commodities, this grouping of natural resources and metals has handily beaten the S&P 500 year after year. In just the past 52 weeks alone, the commodities index is up 33.7%, compared with the S&P's 15.6% gain.

This current uptrend owes its success to two major catalysts. First, the uncertainty in the aftermath of September 11 caused investors to flee from paper assets to "real" investments they can hold in their hands. And that's what commodities and resources are - tangible, physical assets that consumers and investors buy and sell. The list is long, with the term "commodities" encompassing food items such as sugar, coffee, grains (corn, soybeans, wheat, for example), pork bellies (the raw material from which bacon is made), and cattle, as well as metals such as gold, silver, nickel, copper, aluminum, zinc, tin, platinum and palladium. Resource investments include fuel products such as oil, natural gas, and propane.

The second boost to the commodities and resource markets is a direct result of the phenomenal economic growth in China and India that has pushed demand for all things consumer to unbelievable heights.

The bartering of commodities can be traced back to China, more than 6,000 years ago. Today, investors and traders exchange not only the actual physical product, but also trade "futures" contracts to buy or sell commodities at a specific price for a specific delivery date into the future.

Internationally, commodity futures trading takes place in more than 20 countries. In terms of trading volume, some of the most important global commodity trading exchanges include:

• Chicago Mercantile Exchange (CME)
• Chicago Board of Trade (CBOT)
• Euronext.liffe
• London Metal Exchange (LME)
• New York Mercantile Exchange (NYMEX)

In the last few years, commodities have served a need as hedges against inflation, economic fears and increasing global hostilities and - at the same time - provided stellar returns to investors. And while the run has been fabulous, most experts agree that it is not yet over. Here's why:

The voracious consumption in two of the world's most populous countries - China and India - is showing no signs of abating and is affecting the demand and prices of coal and oil, as well as most metals. Precious metals such as gold, silver, platinum, palladium and uranium, base metals, including copper, aluminum, iron, tin, and refined metals such as steel and brass will likely continue to be in great demand, at escalating prices.

China has a population of 1.3 billion, folks who are just in the beginning throes of experiencing all of the wonders of capitalism. According to the Energy Institute, for 2007, China is expected to use up to 350 millions tons of oil, 10 million more than last year. And the country has considerably boosted its consumption of copper, from 1,426 kilotons (kt) to 1,989 kt in the first five months of this year.

India is the second most populous country in the world, with 1.1 billion people whose age averages just 20 years (1/2 that of the Chinese). These young people are just beginning their consumption journey, with their spending just a gleam in the eye of what it will eventually become. India leads the world in its love affair with gold. According to Kotak Mahindra Bank, private Indian citizens own more than 14,000 tons of plain necklaces, rings and bracelets - nearly 10% of the world's entire above-ground gold stocks, more than the U.S., German and French governments combined. And the country's minister of coal reports that demand for that resource is expected to exceed 2 billion tons a year by 2031-32, up from 460 million tons per year right now.

Additional factors heating up the commodities markets:

Uranium has been on a six-year rise with the reemergence of the nuclear energy industry. Demand for nickel is a result of the record consumption of stainless steel in China, India, Singapore, South Korea, Taiwan, Hong Kong, the Philippines, Malaysia, Indonesia and Thailand.

Copper, man's oldest metal, three-quarters of which is consumed by the wire and cable industry, has benefited greatly from the until-recent boom in the housing industry. And as infrastructure needs grow worldwide, this metal is expected to continue its run.

Since 2001, the demand for gold has almost tripled the price - from $260/oz. to more than $687.

Global oil consumption is currently running at some 84.4 million barrels per day - 31 billion barrels per year, sending oil to record prices in the past few months.

Platinum and palladium - both used in auto catalytic converters to reduce toxic emissions, as well as jewelry - have seen tremendous price hikes in the last few years. Platinum has doubled in the past 5 years, and reached an all-time high of $1,340/oz. in August 2006. And with the rush for more environmentally-conscious vehicles, both metals will most likely continue to benefit.

The commodity markets are some of the most logical of sectors to analyze. They function largely as a result of supply and demand. When supply shrinks and/or demand increases — or when investors believe this will be the case — prices rise. And vice-versa. The trick is knowing when those conditions change, and that's where a little bit of experience and research will help you out.

But beware - investing in commodities is not for the weak of heart. The risk of trading physical commodities is great, but can be tremendously rewarding. But you need education and practice before delving into these volatile markets.

A better alternative - for beginners - may be getting your feet wet with exchange-traded funds, mutual funds or commodity stocks. Here are a couple of websites that offer excellent research on these vehicles:

www.morningstar.com

http://finance.yahoo.com/etf

Additionally, for a great educational resource, I recommend George Fontanills' excellent book, Getting Started in Commodities. It's an A-Z primer of all things commodities.

As always, learn before you leap, and you may just find that diversifying with some "naturally occurring" investments is just what your portfolio needs.

Happy Investing!

This concludes this week's issue of Financially Fit.  We encourage you to visit our website to review past issues of Financially Fit:

http://www.brokeradviser.com/newsletter.cfm


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