Practical Applications of Value Investing for Commodities

Practical Applications In Value Investing for Commodities from the Fall 2020 issue of The Journal of Alternative Investments, authors Thijs Markwat (of Robeco Asset Management in Rotterdam), Jelmer Quist (of Amsterdam Data Collective), and Casper Zomerdijk (also of Robeco)—all in the Netherlands—investigate whether a value-investing strategy can work with commodities. Traditional value investing involves picking stocks that are undervalued, based on their issuing companies’ price-to-earnings (P/E) ratio, etc. But commodities are not company shares; they are basic goods like metals and fuels. So investors need another way to determine whether commodities are undervalued. The authors tested a strategy based on the theory that commodities with low long-term spot price returns are undervalued. This strategy successfully identified undervalued commodities, but the gains from it were canceled out by carry and momentum factors. So the authors used hedging to eliminate exposures to these factors, and made the portfolio sector-neutral with additional hedging by sector. This greatly improved risk-adjusted returns—increasing the Sharpe ratio to an impressive 0.79.