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‘Mutual funds can be a vital enabler in the new normal for commodities’


Commodities lurched into over a decade-long slump, after the Great Financial Crises (GFC), that started in 2008 and ended at the peak of the pandemic in 2020. Broader diversified commodity indices like the CRB fell by over 70% during this period. Little wonder that global inflation remained subdued during the period. Moreover, higher commodity prices because of a multi-year bull run before the GFC led to excesses in capex that resulted in supply overhangs for many years.

Notwithstanding the subsequent global economic turmoil of 2011 and 2015, this was an economically favourable period for net commodity importers like India and a nightmare for commodity-exporting countries from Latin America, the Middle East, and Africa.

The double blow of the pandemic and the Ukrainian war exposed the fault lines in the global commodity markets. The pandemic jammed supply chains, increased commodity prices, and pushed the costs of handling and shipping steeply. The Ukrainian war led to the weaponization of strategic commodities like natural gas and crude oil. Furthermore, add to that a world moving towards more localization and risking sliding into deglobalization.


The new normal does not necessarily make commodities immune to economic cycles or demand-supply mismatches, price volatility, and bull and bear phases. However, commodities may increasingly become strategic assets in dynamic geopolitical settings, future supply-side challenges, and looming protectionism.

Moreover, rapid technological advances will create demand for specific commodities that may be tough to predict now. Before EVs went mainstream, the world did not think much of lithium, and now there is a dash for securing supplies across the globe. Silver’s role in green tech is gaining traction as industrial demand for the least expensive precious metal is at an all-time high. As the world embraces technological innovations, there will be winners and losers in the commodities space, directly affecting commodities-consuming and producing nations.

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Gold ETFs & Precious Metals Funds
One of the reasons why India and Indians weather global economic crises better than their global peers is due to their significant gold holdings. Gold tends to do well or offers a store of value during economic calamities. Whether it was the Great Financial Crisis of 2007-08 or the Covid-19 catastrophe, a portfolio with gold would have weathered the storm much better.

Anecdotal evidence suggests that Indian households hold roughly US$ 1.5 trillion of gold. Most of it is in the form of gold jewellery. Assuming just 5% of it is swapped into Gold ETFs, we would have roughly US$ 75 Billion worth of gold with high liquidity that can flow into the domestic market in a very short period with little impact costs and settlement lead times. Especially in times of economic distress and skyrocketing gold prices, both instances where CAD tends to widen and reduction in gold imports on account of flows out of Gold ETFs shall conserve precious foreign exchange and relieve downward pressure on the Rupee.Gold ETFs globally tend to have outflows at times of peaking gold prices and dollar strength. Over 500 MT of gold flowed out of gold ETFs globally since the pandemic’s peak in the last couple of years. In a similar scenario, India would benefit at times of sky-high gold prices and declining Rupee if flows occur out of domestic gold ETFs reducing gold imports and relieving strain on the current account deficit (CAD). However, the combined AUM of Gold ETFs is around 5% of the annual consumption and needs to be more significant to make any impact. Thus, it is imperative to encourage Gold ETFs as the preferred investment product for gold in India.

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Energy ETFs & Index Funds
India imports around 80% of its crude oil requirements. Global crude oil prices directly affect domestic inflation and, in turn, impact Rs bond yields. Based on the past 20 years’ data, such correlations are around 60%.

Energy ETFs or Index Funds can provide a much-needed diversification or hedge against a rise in energy prices, inflation, or a surge in interest rates. Moreover, investment products can be structured around the country’s crude oil reserves, free up capital tied up in inventories, and, at the same time, ensure that we always have sufficient buffer stocks.

Energy ETFs & Index funds are not permitted under existing SEBI guidelines.

The Indian Crude (Oil) Basket is a derived basket comprising Sour Grade (Oman & Dubai Average) and Sweet Brent. Brent Crude prices are more representative of the Indian basket than the West Texas Intermediate Contract (WTI). The active crude oil contract in India mirrors West Texas Intermediate (WTI), listed at the Multi-Commodity Exchange.

While all the above-mentioned oil contracts are strongly correlated, there is a need for a domestic crude oil contract more representative of the Indian Crude Oil basket listed at the domestic stock and commodity exchanges. While it may be impractical to replicate the exact crude oil basket, that may change in the future; however, a contract linked to Brent Crude will do the job.

This will facilitate Oil Marketing Companies (OMCs) and Oil Producers to hedge their price risks onshore. Thereby creating a liquid and healthy two-way crude oil market in India that will eventually lead to price discovery of domestic crude oil prices, an essential barometer of local demand-supply mismatches.

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Base Metals ETFs & Index Funds
India has an abundance of zinc and aluminium; however, we need more essential ingredients that go into Electric Vehicles (EVs), like nickel, lithium, copper, etc. Demand for these metals is likely to increase dramatically in the next few decades because of their higher usage in EVs. For instance, the usage of copper in EVs is over 4 to 6 times that of the standard internal combustion engine vehicles. Base Metals ETFs can be a good proxy for EVs and provide much-needed investment and hedging opportunities for Indian investors and institutions.

Similarly, silver plays a critical role in solar and 5G technologies. Silver ETFs are permitted under existing SEBI regulations.

Base Metals ETFs or Index Funds are not permitted under existing SEBI guidelines.

The Mutual Fund industry can be a vital enabler for India in the new normal for commodities.

Vikram Dhawan is head commodities and fund manager at Nippon India Mutual Fund



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