Commentary from John Ameriks, head of Vanguard Quantitative Equity Group


What do lower commodity prices mean for investors? Get insights from Vanguard’s head of equity, John Ameriks, on the good and bad news it brings and why diversification is an investor’s best friend.

TRANSCRIPT

Vanguard Perspectives®
John Ameriks
John Ameriks
Hi. I’m John Ameriks, and I oversee a team at Vanguard that manages several of Vanguard’s active equity funds. We’re getting some questions these days about how do commodity price changes impact investors’ portfolios.

Why investors should care about commodity prices . . .

So it’s great, actually, for most of us that when we go to the pump, the prices are a lot lower than they were even a couple of years ago. But the thing is that prices have been coming down for so long that people are balancing both the good news that having a great deal of supply when it comes to energy products brings. Having more supply out there means prices are going to be lower, and that should be interpreted as broadly good news, and historically would have been interpreted as broadly good news.

That’s now shaded by the fact that we’re not seeing, necessarily, the demand side pick up all that much. Up until a couple of years ago, people were saying that the demand in growing parts of the world was going to be so great that it would outstrip the supply. Now, we’re just not seeing as much pull in that direction. There are a lot of people that are worried about that.

But it’s two sides to the story. Demand may be just fine and may look like what it had looked like historically, whereas we’ve got an enormous amount of supply coming online as different producers are almost playing a game of chicken, if you will, around how much supply they’re going to put on the market in order to regain market share.

As we know, it’s not just been oil that has seen decline in prices lately. It’s also been a broader basket of commodities, everything from metals to agricultural products. So a lot of investors are struggling with interpreting that. What does it mean? Good news and bad news, again.

The good news side, I think is around supply that new technologies have become available, a new capacity has come online. The reason why firms continue to put commodities on the market even in the face of price declines is a historical decision. They’ve built the capacity, and now the only issue is as they manufacture a commodity, does it cover its variable cost? Even at significantly lower prices, it still makes sense from a supply side to continue to produce. So that may be what’s going on there.

On the demand side, we’ve also seen a slowdown a bit in the emerging market economies in terms of their demand for commodities. That’s related to economic growth. As those economies start to recover, and come back online, and begin to reallocate their investment spending, we ought to see more on the demand side. Normalization will take place, but I think we’re at a time of transition a bit, in terms of both the supply side and the demand.

Well, with the broad-based commodities decline, and severe declines in narrow segments of the market, a lot of investors might be wondering, kind of, how do I handle all of this? How do I make sure that my investments aren’t too hurt by this? Again, maybe it’s rule number one: Diversification is an investor’s best friend.

We think there can be some value in having some degree of exposure to firms that operate in commodity-related industries. As technological change occurs there, those firms can become more profitable. At the same time, it is balanced out by the risks that are run when in narrow sectors you see steep declines.

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