USCI United States Commodity Index Fund

One of the most well-received results of the ETF boom has been the incredible number of options now available to investors in the commodity world. Now, everyday investors can gain exposure to commodity futures in any number of sectors in a way that was once reserved for hedge funds and institutional clients.

While gold and silver were reasonably accessible before, the real surge has been in the soft commodity space which is inappropriate for physically-backed investments. This sector—which includes staple products like corn, coffee, and livestock—is also one of the more volatile corners of the commodity world, making it perfect for those seeking to make short-term trades.

In terms of ETF options in the space, many investors have sought exposure to the segment via the PowerShares DB Agriculture ETF (DBA). This fund has amassed close to $2 billion in AUM and sees volume of over one million shares a day (see Top Commodity ETFs In This Uncertain Market).

Yet, despite this impressive lead and the presence of seven other funds in the broad agriculture ETF space, United States Commodity Funds believes that investors might have a better choice with their relatively new US Agriculture Index Fund (USAG).

This product looks to give investors exposure to the SummerHaven Dynamic Agriculture Index Total Return which is a benchmark of agricultural futures contracts. The product looks to charge investors 95 basis points a year in fees and is structured as a commodities pool making the product technically a limited partnership.

With this focus, the commodity ETF will choose from 14 eligible products, switching in and out on a monthly basis. The group includes a variety of commodities including; corn, soybeans, soft and hard red winter wheat, soybean oil & meal, canola, sugar, cocoa, coffee, cotton, live cattle, feeder cattle, and lean hogs.

Thanks to this, the product looks to act as a broad benchmark for the space instead of just holding a few specific commodities in the agriculture sector, as all fourteen commodities are held every month (see more on ETFs at the Zacks ETF Center).

In order to determine the weights, the company first starts with its ‘base weight’ for each of the products. Currently, this is broken down as follows among the various commodities:

 

Commodity	Base Weighting
Soybeans	12.5%
Corn	12.5%
Soft Red Winter Wheat	8.0%
Hard Red Winter Wheat	4.0%
Bean Oil	3.0%
Soybean Meal	6.0%
Coffee	10.0%
Cocoa	6.0%
Sugar	10.0%
Canola	3.0%
Cotton	6.0%
Feeder Cattle	3.0%
Live Cattle	10.0%
Lean Hogs	6.0%

Based on these base weights, the company then adjusts them on a monthly basis to play market trends. This is done via a three step process:

1. The issuer finds the annualized percentage price differential between the closest-to-expiration benchmark contract and the next closest-to-expiration contract. The four commodities that have the four highest differentials are given a 2% boost in their total weight.
2. For the remaining 10 commodities, the percentage price change for the agricultural products is calculated. The three that have the highest percentage price change are given a 2% boost in their total weight.
3. Then, finally, the seven products that were not selected using the criteria listed above experience a 2% reduction in their weighting in the index.

This strategy looks to help investors minimize contango and maximize backwardation by looking at the futures curve as well as observed inventory levels. The firm believes that by doing this investors can have a better commodity ETF investing experience that is more in-line with spot prices.

While the methodology might seem a little strange, investors should note that a similar product tracking the broad commodity market already exists; the USCF Commodity Index Fund (USCI). This ETF has amassed more than $400 million in AUM and sees average trading volume approaching 90,000 shares a day, suggesting that the technique has caught on with investors so far (see Is USCI The Best Commodity ETF?).

However, investors should remember that the agricultural space is fraught with competition and not just from the aforementioned DBA. Beyond that popular product is another relatively new fund from Teucrium, the Teucrium Agricultural Fund (TAGS). This product only holds a handful of commodities in its basket, but the company’s focus on reducing contango could make it a quality rival to USAG (read Teucrium Launches New Basket Agriculture ETF).

Thanks to this heavy competition, USAG could have some difficult seeing inflows among a wide variety of investors. This is especially true given that USCI has had a difficult time outperforming more traditional benchmarks over the past 52 week period.

However, USCI has shown a history of outperforming—or at least matching broad benchmarks—during periods of commodity bulls quite frequently in its history. Given this, some agricultural commodity investors may want to give USAG a closer look as a more ‘quantitative’ choice in the agricultural ETF space.

This could be especially true if agricultural markets continue to surge and inventory levels in some key grain products fall in the months ahead. In fact, corn prices have risen by about 16% since the beginning of June while wheat prices had added a similar amount in the time frame thanks to the sweltering heat. Should this trend continue, USAG could be well positioned in a number of futures contracts and ride this to outperformance.

Arguably, this has already started to happen as of late as USAG has managed to outperform its main counterpart, DBA, over the past month. In this time period, USAG has added 5.4% while DBA has gained just 3.6% in comparison (see Five ETFs to Buy in 2012).

Clearly, USAG’s solid methodology has helped in producing this marked outperformance over this relatively short-time period, and particularly so over the past week. Should this continue, inflows seem certain to flow into the still-new ETF, making USAG a viable option for investors looking to play the hot weather and ride grain prices higher in the summer months.

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PWRSH-DB AGRIC (DBA): ETF Research Reports
 
TEUCRIUM AGRICL (TAGS): ETF Research Reports
 
US-AGRICULTURE (USAG): ETF Research Reports
 
US-COMMODITY IF (USCI): ETF Research Reports
 
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