Interview with David Donora – “Brent/WTI crude was a key contributor to performance in 2011 as well as 2012. Another significant position for 2012 was an underweight in natural gas versus a maximum overweight in gasoline. We also held a maximum overweight position in gas oil: across the energy sector that was our most significant contributor to outperformance last year,” confirms David Donora (pictured), who co-manages the Enhanced Commodities Fund at Threadneedle with Nicholas Robin.
The long-only fund trades between 20 and 25 commodities. Each position, be it underweight or overweight, has an upper limit of 7 per cent of the fund’s portfolio.
Not only does the strategy now have north of USD1billion in assets (USD1.1billion to be precise), in both the enhanced fund and a US version of the strategy, but it’s also doing what it says on the tin. The term “enhanced” relates to the fund’s objective of outperforming the Dow Jones UBSCI benchmark by some “3 to 6 per cent”, says Donora, confirming that in 2011 “we came in slightly higher than 12 per cent and last year we came in at 5 per cent”.
“Commodity markets are always changing. In order to generate meaningful outperformance you can’t be rules-based, model-driven; you might be able to do it short-term but you have to change with the market. The best commodity traders in the world are always evolving their models. As a discretionary team we are always developing with these markets,” says Donora, who made a point of building a commodities team at Threadneedle with significant experience.
“Nicholas Robin is someone who not only has commodity experience but also commodity index experience. Across the team we have a lot of commodity experience and that’s really what drives what we do.”
Energy and grains make up the biggest part of the portfolio in percentage terms. Donora explains that knowing what weight to put on the curve is critical for generating outperformance: “For some commodities we want to be closer to the spot than the index (near the front of the curve) while in other commodities we might want to be further back along the curve. Throughout the year, in many cases we will move the location of our weight to different places on the curve in order to capture more outperformance relative to the benchmark.
“Our investment process is to identify significant overweight and underweight positions within the portfolio, as well as proactive curve positioning.”
Energy contributed around 5 per cent of outperformance in the fund last year and remains the team’s biggest conviction position; in particular Donora says they expect to remain bullish on oil-based energy in 2013. This is due to little spare capacity in crude. It remains a supply-constrained market.
“Let’s say the price of crude oil went up by 50 per cent - that doesn’t change your ability to increase production meaningfully by the end of 2013. Demand is largely coming from growing emerging market countries. If we have reasonably strong global economic growth in 2013 that will increase demand for crude and the only way it’s going to be able to ration that demand is through higher prices.
“If the world is in a better economic place by end-2013 then it’s possible we might see 5 to 10 per cent higher crude oil prices.”
By comparison, if the price of natural gas went up to USD5/million BTUs, given the technology and speed to bring gas to market in the US a 5 to 10 per cent increase in production would be possible within six months to a year.
“Our current view is we will stay underweight natural gas against gasoline,” says Donora.