Talk Your Book: Why Commodities Are Working

Episode Summary

Executive Summary: The episode centers on PIMCO’s active commodity ETF, CMDT, and why commodities are being framed as a strategic, not passive, allocation. Greg Scher argues commodities offer inflation and geopolitical hedging, and that active management, momentum, carry, and collateral optimization can improve returns versus index funds. Gold, oil, and the broader real-asset complex are discussed as beneficiaries of deglobalization, fiscal spending, AI-related capex, and supply constraints.

Main Topics: PIMCO’s active commodity ETF strategy (Priority: 5/5): Greg Scher explains that CMDT is a fully active, go-anywhere commodity fund that is not tied to one index and can invest across energy, metals, agriculture, livestock, and precious metals. The fund aims to combine commodity exposure with active risk management and collateral optimization. Momentum, carry, and systematic factor tilts (Priority: 5/5): The discussion emphasizes that commodities are best approached with trend and momentum tools because of boom-bust behavior. Scher says momentum is only one of several factors used; carry, behavioral signals, and curve positioning are also central to portfolio construction. Gold as a geopolitical and inflation hedge (Priority: 5/5): Gold’s strong run is framed not just as a price story but as a response to central bank buying, geopolitical uncertainty, and concerns about asset seizure and reserve diversification. Scher argues the post-2022 environment made gold more attractive for sovereigns and investors. Commodities in the current macro regime (Priority: 4/5): The speakers discuss how commodities can do well even when equities are strong, especially in a world of higher fiscal spending, AI infrastructure demand, energy transition capex, and supply-chain rebuilding. The idea is that this may be a re-acceleration phase rather than a late-cycle peak. Oil and the bifurcation of markets (Priority: 4/5): Scher argues oil markets are increasingly split between deliverable barrels for Western markets and barrels that are effectively stranded due to sanctions and geopolitics. This bifurcation helps explain why oil has held up despite OPEC supply increases. Portfolio construction, volatility, and tax structure (Priority: 3/5): The fund is actively rebalanced, can run between 80% and 120% invested, and uses cash collateral from futures. Scher also notes the structure is designed to avoid K-1 tax treatment, which may appeal to taxable investors.

Key Arguments: Commodities are better viewed as a trend-following asset class than a buy-and-hold investment because supply and demand cycles create long periods of underperformance followed by strong rallies. CMDT is intentionally not married to a single benchmark; it seeks the best commodity exposures while still remaining cognizant of benchmark-relative investor expectations. Active management matters in commodities because curve positioning, roll yield, momentum, and collateral management can add meaningful return versus passive indexes. The fund can be 80% to 120% invested depending on signals, using futures margins and collateral to adjust exposure efficiently. Gold’s strength is supported by more than inflation fears; central bank reserve diversification and geopolitical asset-security concerns are key drivers. The 2022 freezing of Russian assets was a watershed event that increased demand for portable, hard-to-confiscate assets like gold. Commodities may be participating in a broader regime where growth is supported by fiscal stimulus, AI capex, energy transition spending, and strategic stockpiling. Oil is no longer a single global market; sanctions have created multiple price pools, which affects supply, tradability, and returns. The current environment may not be purely late-cycle; it could be a re-acceleration phase with inflationary resource constraints. The ETF structure aims to improve after-tax usability by avoiding K-1s and using a Cayman fund vehicle.

Data Points: Fund launch: 2023 - CMDT, PIMCO’s active commodity ETF, was launched in 2023. Commodity mandate history at PIMCO: 2000 - Scher said PIMCO’s first commodity mandate dates back to 2000. Oldest mutual fund in PIMCO commodity lineup: 2002 - He noted PIMCO’s oldest commodity mutual fund has existed since 2002. Second mutual fund launch: 2011 - PIMCO’s second commodity mutual fund was launched in 2011. Invested range: 80% to 120% - The fund can scale exposure based on momentum and market conditions. Tracking error / benchmark deviation: 500 to 600 bps - Scher said the strategy can take roughly 500-600 basis points of deviation from benchmark. Illustrative alpha from tracking error: 250 bps - He gave an example that 500 bps of deviation with a modest skill edge could translate into about 250 bps of alpha over time. Commodity portfolio carry advantage: 300 to 400 bps - He estimated active management can improve carry by about 300-400 basis points over time. Commodity volatility: 15 to 18 vol - He referenced typical commodity volatility when discussing the meaning of active outperformance. Momentum contribution: 20% to 25% - Momentum strategies account for about 20-25% of benchmark deviation in the portfolio. AI / energy transition / military capex / stockpiling: Multiple demand pillars - Scher described these as structural sources of commodity demand in the current cycle. Russian oil on water: 40 to 50 million barrels - He said Russian supplies have built up by roughly 40-50 million barrels on water. Gold performance in the 2020s: ~22% per year - The hosts cited gold being up about 22% annually in the 2020s. Central bank buying share: Very large share initially; lower recently - Scher said central banks were a major driver of gold demand two to three years ago, with more retail participation in the last six months.

Pivotal Quotes: "Commodities are for trend following." — Michael Batnick: Opening framing of why commodities may fit momentum-based strategies better than buy-and-hold investing. "We are a go-anywhere fund." — Greg Scher: He describes CMDT’s active, unconstrained approach to commodity selection and portfolio construction. "The 2022 when the U.S. and Europe froze and seized Russian assets... was like a pretty big watershed moment." — Greg Scher: He explains why sovereigns and investors became more interested in gold as a reserve and security asset.

Implications: Listeners should view commodities as a strategic, actively managed diversifier rather than a simple index allocation. The broader message is that inflation, geopolitics, and industrial capex may keep real assets relevant even if stocks also rise.