By Martin Kremenstein – Getting the execution right when managing a commodity ETF, irrespective of the underlying index it is tracking, is fundamentally important. It’s something that Martin Kremenstein (pictured), CEO and CIO, Deutsche Bank Commodity Services LLC, and his team are fully focused on, particularly given the size of the firm’s flagship commodity ETF: DB Commodity Index Tracking Fund (DBC), which, with USD 7 billion in AUM, makes it the largest broad-based commodities ETF in the world.
“When you’re running a large product versus an index you have to be careful that the fund’s activities don’t start to distort the index. On the execution side, when we’re rolling contracts we work closely with a variety of brokers and traders to make sure we don’t move the market. If we weren’t executing our Optimum Yield methodology correctly the index probably wouldn’t be as effective,” says Kremenstein.
Just as execution needs to be adaptive on a daily basis, so does the underlying index being tracked. Herein lies the second key advantage that DBC has over other commodity products.
When DBC launched in 2006 it began by tracking an index called the Deutsche Bank Liquid Commodity Index Optimum Yield. Optimum Yield is the methodology used for rolling futures contracts, and a key part of DBC’s success.
Initially, the Index held six of the most liquid commodity contracts for each sector. They included WTI crude, heating oil, aluminium, gold, corn and wheat. Back then, most indices – and many of today’s benchmarks such as S&P GSCI, DJUBSCI – were front-month rolling indices. This is good over the short-term for getting spot returns but over the long-term roll yield becomes the biggest driver of returns. Ultimately, says Kremenstein, “these indices don’t take into account the shape of the curve when they roll futures.
“Our index uses an Optimum Yield algorithm. When it’s time to roll the future it looks at the shape of the curve and calculates for the next one year's worth of futures the contract with the best implied roll yield. The shape of the curve is a big driver of returns so you need to have exposure that adapts to the shape of the curve.
“For example, last June we were rolling out of our July WTI crude oil contract. We looked at the shape of the curve, and it turned out the contract over the next year that had the best implied roll yield was next year’s July contract. The opposite was true for Brent crude. The contract with the best implied roll yield came from the front month, so we rolled front month.
“That methodology has enabled us to outperform both the S&P GSCI and the DJUBSCI for the last seven years now.”
Over a one-year period the Index has returned 4.16 per cent (3.32 per cent for the fund). This compares to 0.08 per cent for S&P GSCI and -1.06 per cent for DJUBSCI.
In 2009 the basket of contracts held in the Index was expanded from six to 14 contracts. Overall weightings remain the same – around 55 per cent for energy, 10 per cent for precious metals, 12.5 per cent for base metals, 22.5 per cent for agriculture but as Kremenstein confirms: “We’ve added Brent crude, RBOB gasoline and natural gas, copper and zinc, silver, as well as soy beans and sugar.”
Last year, DBC attracted a further USD900million of net new inflows.