Commodity Mutual Funds – Types, Benefits and Working Explained
Commodity, as an asset class, has never been too popular among Indian investors compared to equity, debt, gold, etc. That’s primarily because most Indian investors are unaware of the potential of commodity mutual funds. In this blog, we have explained in detail the features, benefits and other characteristics of commodity mutual funds and how investing in these funds could help you diversify your portfolio. Let’s dive in.
What are Commodity Mutual Funds?
Commodity funds are a type of mutual funds that invest in various forms of commodities, including both agricultural commodities like food grains, livestock, coffee, etc., and non-agricultural commodities such as gold, crude oil, minerals, etc. Generally, the structure of commodity mutual funds in India resembles that of an Exchange Traded Fund (ETF) or Fund of Funds (FoF). Commodity mutual funds invest a minimum of 95% of their assets in physical commodities or commodity ETFs.
How do Commodity Mutual Funds Work?
A commodity mutual fund invests in the trade of a particular commodity, allowing investors to get returns based on its performance. The market demand and prices of these commodities on a specific day decide its trading volumes.
In India, the market regulator SEBI allows AMCs (Asset Management Companies) to invest in commodities through ETCDs (Exchange Traded Commodity Derivatives). These are futures and options that track both individual commodities and baskets of various commodities. These are a great alternative to direct investments in the trade of commodities in the futures market.
SEBI does not allow companies to trade in derivatives of sensitive commodities. Mutual fund schemes are also not allowed to invest in any physical commodity except gold. As a result, many AMCs offer commodity funds that specifically trade in gold due to its high valuation and as a hedge against inflation.
Mutual funds can participate in the commodities market indirectly through hybrid schemes, Gold ETFs, etc.
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Different Types of Commodity Funds
There are hundreds of actively traded commodities in the world. Commodities and corresponding commodity funds are categorised into the following types.
1. Basic or True Commodity Funds
These are called basic funds as the merged corpus of the fund is utilised to purchase commodities. These funds invest in physical assets such as metals.
2. Natural Resources Funds
These funds invest primarily in companies that deal with natural resources and commodities. This includes minerals, gold, silver, petroleum, oil, etc.
3. Combination Funds
These funds follow a combination strategy of investing in both basic commodities and commodity futures. The basic commodity investment reduces the risk while futures provide investors a chance to earn high returns.
4. Index Funds
Index commodity funds are passively-managed and regulated mutual funds. Fund managers of these mutual fund schemes directly buy commodities at standard rates based on the benchmark.
5. Future Funds
A Fund manager of a future fund engages in trading futures, which are agreements to buy/sell a specific quantity of commodities at a fixed price. These are associated with high financial risk as their NAV (Net Asset Value) can increase or decrease dramatically according to market rates and the fund manager’s decisions.
What are the Benefits of Investing in Commodity Funds?
Let us explore the reasons why you should invest in commodity mutual funds:
1. For Hedging Against Inflation
During periods of high inflation, prices rise with global market alterations. In such situations, commodity mutual funds act as a hedge against inflation, protecting the investors’ purchasing strength.
2. Protection against Market Volatility
Some commodities such as silver and gold are of immense value when the market shows bearish trends. Mutual funds investing in such commodities are less prone to market volatility.
3. Diversification of your Portfolio
All investors want to diversify their portfolio to reduce risks and benefit from constant growth regardless of market conditions. Adding a commodity fund can help diversify with an additional asset class.
4. Flexibility
Commodity mutual funds allow investors to meet both their short-term and long-term financial goals.
Who Should Invest in Commodity Funds?
Given below are the details of investors who may prefer commodity mutual funds:
- Investors with a high-risk appetite can invest in commodity mutual funds. This is because the prices of commodities tend to be extremely volatile and subject to market conditions.
- Investors with a long term investment horizon can invest in commodity funds. These funds do not promise to deliver a fixed amount of returns. But, investors will benefit immensely if they remain invested for a longer tenure.
- Investors who have adequate market knowledge should ideally invest in commodity mutual funds. One needs to have adequate knowledge of the commodity market and the complex macroeconomic factors that affect it.
- Investors who want to diversify their portfolio via an additional asset class.
Best Commodity Mutual Funds in India in 2023
The table below provides the important details about the top-performing commodity mutual funds in India in 2023:
| Name of the Mutual Fund | NAV | AUM | Expense Ratio | 5-Year Returns |
| ICICI Prudential Regular Gold Savings Fund(FOF)- Direct Plan- Growth | ₹18.5561 | ₹648.02 crore | 0.09% | 12.64% |
| SBI Gold Fund- Direct Plan- Growth | ₹17.7014 | ₹1,241.95 crore | 0.1% | 12.76% |
| Nippon India Gold Savings Fund – Direct Plan – Growth | ₹23.2602 | ₹1,431.38 crore | 0.14% | 12.44% |
| Aditya Birla Sun Life Commodity Equities Fund Global Agri Plan- Direct- Growth | ₹37.69 | ₹15.79 crore | 1.29% | 9.27% |
*Data valid as on 15 January 2023
Final Word
Since there’s a certain degree of risk involved in commodity fund investments, it is advised that only investors with adequate market knowledge and research capabilities could consider these funds as a part of their portfolio. Though these funds offer the benefit of increased diversification and hedging against inflation, their performance could be affected by any sort of geopolitical tension. So, do enough research or consult an investment advisor before investing in commodity funds.
FAQs
Ans: In India, commodity trading takes place on officially registered commodity exchanges. Traders buy and sell commodities instantly in spot markets in exchange for hard cash. Instead of physical delivery, traders may also deal in futures contracts.
Ans: Here are some of the popular commodity exchanges in India:
• NSE (National Stock Exchange)
• BSE (Bombay Stock Exchange)
• ICEX (Indian Commodity Exchange)
• MXC (Multi Commodity Exchange of India)
• NCDEX (National Commodity and Derivative Exchange)
• UCE(Universal Commodity Exchange)
• ACE (Ace Derivatives Exchange)
Ans: A futures contract is an agreement to buy or sell a specific quantity of commodities at a fixed price on a certain date. Futures contracts help to hedge against the price of commodities. One can utilise them to minimise financial loss.
An options contract is an agreement between a buyer and seller that grants the buyer rights to buy/sell stocks or commodities at a predefined time.
Ans: Given are some of the key risks when dealing in commodity derivatives:
• The spot market and the futures market for commodities, while subject to SEBI regulations, are discrete in nature and are affected by individual decisions.
• The commodity market is a relatively nascent market, and fund managers may not have the expertise to assess risks of commodity exposure accurately.
• The government tends to be sensitive about the price volatility of essential commodities and may take action to adjust it.
Ans: As per SEBI regulations, mutual funds cannot invest more than 10% of a scheme’s assets in ETCDs of a single commodity. This limit is not applicable for gold ETFs (exchange-traded funds) where the ETCD’s main commodity is gold.
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Disclaimer: Mutual Fund investments are subject to market risks, read all scheme-related documents carefully.
This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this article is for general purposes only and not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision taken on the basis of this article.
