Do copper-backed funds make sense?

Exchange-traded fund provider ETF Securities is to launch six exchange-traded commodities (ETCs) backed by industrial metals: aluminium, copper, nickel, tin, lead and zinc. Similar products are in the pipeline at several banks. The full details aren't available yet, so key information, such as storage costs, remains unknown. But do they make sense in principle?

Commodities are an attractive hedge against currency debasement. But, as you'll know if you bought an oil tracker in 2009, it's easier in theory than in practise to track commodities. Contango when forward prices trade above the ('spot') price for immediate delivery eats into the returns of any tracker based on 'rolling' a position in the futures market. That's why oil trackers returned less than a third of the spot crude price rise last year.

The idea behind the new ETCs is that by buying and storing the underlying commodity, you can track the spot price instead. You can't do this for energy (because of the scale) or for soft commodities (because of perishability), but it's just about feasible for metals.

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But while this deals with the contango issue, it brings its own costs. The storage fees for an aluminium ETC, for example, are estimated at 6%-10% a year. That means you'd have to see the price of the metal rise by at least that much just to break even.

A second concern is that many of the financial institutions that want to issue physical metal ETCs also trade in commodities for their own account. The trouble is, metals pricing is far from transparent; will ETC investors benefit from any inefficiencies, or could issuers take advantage at their expense?

Third, contango isn't such a problem for industrial metals. According to the FT, the futures-based return in four of the six metals concerned has beaten the spot price over the last ten years and that's before potential storage costs.

In short, we're happy to use precious metals ETCs, where costs are minimal and physical backing is by allocated bars. But if you want wider commodity exposure, we'd use a broad tracker that minimises contango, such as the db x-trackers DB-LCI Optimum Yield Balanced ETF (LSE: XDBC).

Paul Amery edits www.indexuniverse.eu .