Heavy Metal ETF: Amp Up Your Holdings
As copper hits a three-week high today on demand from China and positive U.S. January homebuilding data, it draws attention to PowerShares DB Base Metals Fund(DBB), which has been turning some heads recently with its erratic gains and losses.
The fund had positive performance that was strong enough to put it on my weekly ETF winners list last week, rising 6.3%, but it also had enough negative performance to make my weekly ETF losers list the week before that, falling 4.9%.
The fund is certainly volatile and started the week yesterday with an increase of 5.6%, one of the strongest gains among all ETFs on the day. One thing about DBB seems certain: Whichever direction it takes, it will go there fast.
DBB tracks an index composed of futures contracts for copper, aluminum and zinc in approximately equal weightings. Investors with risk tolerance that are interested in gambling on sharp upturns in industrial metals should choose DBB over some similar metal fund alternatives because it is the only ETF tracking an industrial metal basket with sufficient liquidity.
The basket of industrial metals will rise or fall in value depending on the world economic outlook for overall growth and construction. Changes in these factors alter the demand side of the equation for the price of these metals.
On the supply side, factors that can influence the price of these metals have to do with the speed of metal production or mining. Also, inventory levels that individuals, companies or countries accumulate can also influence the price of the metals if stockpiled supplies are put out on the market. Large inventories can also reduce demand for metals since the owners of the inventory may not need to purchase new quantities in the marketplace when they have the ability to draw on their own ample reserves.
In an example of how demand concerns can eat away at the value of DBB, the fund fell by 13% in the period from Jan. 19 to the end of the month after the Chinese government announced that it would restrict rampant lending.
, the iShares FTSE/Xinhua China 25(FXI), fell by about 10% while the S&P 500 dropped by 7%, showing how sensitive DBB can be to certain economic trends.
The decrease in DBB was greater than that of FXI since the speculation about interest rate increases in China also led to speculation that inventories would become less desirable in comparison to bank deposits. This would lead to less demand for metals and a decrease in the value of DBB. Speculation about this trend compounded the decrease in DBB that was caused by concerns that there would be less construction as a result of fewer loans.
Factors beyond China also influence DBB, but the relationship between economic policy in that country and metal prices in the latter part of January serves as a fine example of how volatile DBB can be in response to news. It also shows the potential for lucrative trades if they are timed correctly, as the fund has rebounded by 12% since Feb. 5.
Right now may not be the best time to jump into this fund, however, following its recent rally. Still, it would be prudent for investors to keep the dynamics of this ETF in mind should an opportune situation arise in the future.
