The study, co-authored by BIS economist Marco Lombardi and Francesco Ravazzolo, a monetary policy researcher at Norway’s central bank, finds that correlations between commodity and equity prices have risen markedly since mid-2008, after “hovering around zero” during the previous decade.
Lombardi and Ravazzolo note that equity returns predict commodity returns – a relationship that can be exploited via a dynamic asset allocation strategy. However the riskier performance profile of commodity futures means that including such securities in a portfolio will increase its volatility.
They conclude: “Private and institutional investors have displayed an increasing appetite for commodities over the past years. Our findings have far-fetching policy implications in this respect.
“On one side, our results provide empirical support for the inclusion of commodities in a portfolio. At the same time, however, we have also found that this comes at the cost of an increase in volatility. Therefore, the growing appetite for commodities is likely to produce more volatile portfolios.”
The findings contrast with a study by University of Notre Dame finance professor K J Martijn Cremers, which found that “direct” investments in real assets such as timberland can reduce the volatility of a traditional investment portfolio, without negatively affecting overall performance.
“On the correlation between commodity and equity returns: implications for portfolio allocation” can be downloaded from the BIS website, here.