They're back! Post-financialization diversification benefits of commodities

Area of Science:

• Finance
• Economics
• Investment Management

Background:

• Empirical evidence on alternative assets, like commodities, for portfolio diversification is mixed and predominantly U.S.-centric.
• Canadian investors face unique challenges due to equities already possessing commodity beta exposure.

Purpose of the Study:

• To investigate the diversification benefits of commodities for Canadian investors from 1993-2019.
• To assess the impact of financialization on commodity diversification potential.
• To evaluate the role of specific commodity indexes and international diversification in portfolio enhancement.

Main Methods:

• Utilized several distinct commodity indexes over a 27-year period (1993-2019).
• Employed spanning tests and out-of-sample performance measures.
• Analyzed portfolios for both risk-averse and disappointment-averse investor profiles.

Main Results:

• Commodity diversification potential was limited in Canada pre- and during financialization.
• The post-financialization era presents new diversification opportunities with commodities.
• Performance improvements were significant with certain commodity indexes, but not all, highlighting index selection importance.
• Incorporating an international component further boosted portfolio performance.

Conclusions:

• The effectiveness of commodities as a diversification tool for Canadian investors is time-dependent and index-specific.
• Strategic selection of commodity indexes and the addition of international assets are crucial for optimizing portfolio diversification and performance.
• The study underscores the evolving role of alternative assets in modern portfolio construction.