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Portfolio diversification and excess comovement in commodity prices

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  • Ian Garrett
  • Nick Taylor

Abstract

We examine excess comovement in commodity prices and the extent to which this can be explained by the role of commodities in portfolio diversification. We estimate the proportion of investor wealth that should be allocated to commodities in order to maximize expected utility over time and examine whether periods of significant investment in commodities are correlated with excess comovement in commodity prices. Using the Goldman Sachs Commodity Index we find that commodities should form a large part of the optimal portfolios of US investors. However, while this result is robust to the level of risk aversion, it is not robust to the time period considered. We find that commodities only offer statistically significant increases in expected utility during the commodity booms of the early 1970s and the early 1990s. Interestingly, the significance of the commodity weight in the optimal portfolio corresponds to periods when there is also excess comovement in unrelated commodity prices. These findings suggest that commodities per se are treated as an investment class and apparently irrational excess comovement in commodity prices occurs when it is optimal for investors to hold commodities in their portfolios.

Suggested Citation

  • Ian Garrett & Nick Taylor, 2001. "Portfolio diversification and excess comovement in commodity prices," Manchester School, University of Manchester, vol. 69(4), pages 351-368, September.
    • Handle: RePEc:bla:manchs:v:69:y:2001:i:4:p:351-368
    DOI: 10.1111/1467-9957.00252
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    Cited by:

    1. Antonakakis, Nikolaos & Kizys, Renatas, 2015. "Dynamic spillovers between commodity and currency markets," International Review of Financial Analysis, Elsevier, vol. 41(C), pages 303-319.
    2. Bolong Cao & Shamila Jayasuriya & William Shambora, 2010. "Holding a commodity futures index fund in a globally diversified portfolio: A placebo effect?," Economics Bulletin, AccessEcon, vol. 30(3), pages 1842-1851.

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