Wall Street Journal

A Commodities Fund? Yes, and it couldn't be better-timed

Michael Santoli

Most mutual-fund investors get direct exposure to commodity prices at only two places: the gas pump and the supermarket. Regulatory barriers and lack of retail interest in commodities at a time when equities ruled have kept most asset managers from fashioning a pure commodity mutual fund. But last week, just in time for the stock market's unraveling, a first-of-its-kind fund that invests in commodities was launched. The Oppenheimer Real Asset Fund is aimed at giving individual investors an added plank to their asset-allocation platform, one that tracks the performance of a broad group of commodities and thus a wide swath of the real economy. Because commodity markets tend to run counter to the tightly linked stock and bond arenas, investments in them act as ballast to a more conventional equity and fixed-income portfolio. Before the Oppenheimer fund was created, says Steve Strongin, commodities research chief at Goldman Sachs, ``there was no way [for individuals] to get access to commodities in a way that wasn't highly leveraged'' - with the exception, perhaps, of a London-traded closed-end fund. Goldman Sachs's Commodity Index acts as the benchmark for the Oppenheimer fund. Commodity pools and managed-futures accounts, which attract some investors with the promise of bang-up returns, use plenty of leverage and chase trends rather than track commodities in a broad way. Those vehicles also are marketed to wealthy investors, while the Oppenheimer fund's $1,000 minimum can accommodate those of humbler means. Oppenheimer is betting there is a simmering, unrequited desire among smaller investors for exposure to commodities, which leads many to such investments as ``natural-resource funds, gold funds and real-estate investment trusts,'' says Russell Read, the Oppenheimer portfolio manager who heads the fund's three-person management team. Such supposed proxies for commodity prices are imperfect. Strongin has done studies showing that commodity-related stocks are tied much more closely to the broader equity market than to the particular commodity in which the issuer deals. Commodities in one big way seem well-suited to investors' current prevailing fears. As Strongin points out, they offer one of the only ways to profit from an overheated economy, a prospect that is giving the stock and bond markets fits. The fund, though, wasn't rolled out during a panicky stock market for dramatic effect. Rather, Oppenheimer executives just recently finished a 2 1/2-year trek through the minefields of regulatory arcana to bring the fund to market. Mutual funds by law must to invest predominantly in securities and are restricted from making much money on shorter-term bets. Futures, the main way to invest in commodities, aren't securities and by nature are short-term instruments. That's where the unique part of the fund comes in. Rather than futures or commodity-related stocks, the fund's main holdings will be privately issued bonds whose returns will be linked to the value of a broad commodity index like the GSCI or narrower sub-indexes. Futures and options will be used only in a selective way to capture isolated market opportunities. The financial technology of commodity-linked structured notes and commodity swaps, now fairly commonplace, had to be developed before such a mutual fund could be considered. Correctly or not, this aspect of the Real Asset Fund could spook some investors conditioned by bond-fund blowups in 1994 to flee at the mention of structured notes, which in some cases proved illiquid and hard to value in a pinch. Read says there's no need for concern. Valuing the paper, he says, will be as easy as looking at exchange-traded futures prices, and all the notes the fund buys will be redeemable on one day's notice. Another safeguard built into the fund, as part of an agreement reached with regulators, is a limit of 150% on total leverage, a fraction of what many futures traders use. That will damp the fund's volatility. Of course, it will also mute the chances for home-run short-term gains - the commodity-market attribute that holds such allure for a lot of investors. All that is by design, though it will make investing in the fund less the crap shoot that many look for in commodities, and about as much fun as taking vitamins.

Questions:

What are real assets and why might adding real assets to a portfolio of financial assets provide a diversification benefit?
If you were to invest all of your wealth in a commodity fund, what would you expect your returns and risk to look like over time?
Asssuming you were going to hold a commodity and financial asset fund in your portfolio, how would you determine how much to invest in the commodity fund?
Under what economic envioronment will the benefits of having a commodity fund in your portfolio provide the greatest benefit? (Hint: Consider inflation)