While several Nordic pension funds have been investing in commodities for some time, interest in the asset class has recently surged. The rise in commodity prices, not only from increasing energy prices but also from escalating food prices, has made even the most reluctant investors begin to take notice of commodities or at least wish they had boarded the train.

But when deciding to take on the asset class, there are a number of ways to approach it and funds have chosen a variety of strategies. While most pension funds choose to invest by following a broad index exposed to a large number of commodities, others argue for a more specific strategy, such as investing in an active fund or only investing in one specific commodity, for example oil.

And while being exposed to commodities is no recent phenomenon, it has been thrust into the spotlight following recent market turmoil. As Tomas Berglund, head of Nordic distribution at Threadneedle, says: “Many institutional investors think it is sensible to have an allocation to alternatives, including commodities, which have little correlation with other asset classes. When the stock markets were weak in the first quarter of the year, commodity prices went up.”

The limited correlation to equities and bonds is not the only benefit. Commodities can improve the risk/reward profile of most long-term portfolios and act as a good hedge against inflation. Other characteristics, according to ETF Securities, are returns and volatility that are comparable to equities over the long term.

George Cheveley, co-portfolio manager at Investec Asset Management, says that although pension funds have been interested in commodities since as far back as 2000, there has been a recent shift due to the increase in commodity prices.

And there are indications that the outlook is good. A negative or uncertain outlook for other asset classes has historically been good for commodities. Inflation is also positively correlated with the asset class.

Investec Asset Management is bullish about the demand for commodities and Mr Cheveley believes it will continue to be strong. It is not only boosted by growth and development in countries like China and India, but also by demand for improving infrastructure in the western world, for example adapting to climate change.

“Demand growth rates have returned to levels of the 1950s and 1960s when there were high average prices and a huge amount of investment opportunities. Back then, there was huge demand from the urbanisation of western Europe, Japan, Korea and also the US boom and we are returning to a period similar to that. Discussions about commodities and the high prices were also very frequent back then,” says Mr Cheveley.

He believes that what is happening in the commodities market requires some perspective and believes the 1980s and 1990s were the truly unusual periods in this cycle.

“Some say commodities are in a bubble and that it can’t last. But, in fact, what we’ve seen during the 1980s and 1990s was a non-normal period. It’s fairly lazy and simple to call it a bubble,” Mr Cheveley says.

But no matter how convincing the prospects for commodities may sound, the main reasons for taking on the asset class does not, however, seem to be for good returns. Instead, it is the diversification benefits that most pension funds are mentioning as the main motive for taking on the asset class.

“Diversification is the main reason,” says Henrik Gade Jepsen, chief investment officer at ATP, which is a sentiment echoed by all other pension funds.

However, there seems to be some uncertainty of how to best take advantage of the opportunities and many funds have been hesitant about how to invest. Kåpan, the SKr33.3bn (€3.55bn) Swedish pension fund for government employees, has been struggling to find a good strategy for taking on commodities.

“We looked at different indices, but were unsure about what we would actually get from [commodities]. We just weren’t certain how much real exposure to the actual asset class it would bring us,” says Gunnar Balsvik, Kåpan’s chief executive officer.

After contemplating different strategies, Kåpan finally decided to start investing through hedge funds and equities. The hedge funds are focused on trading in commodity futures and it also has some funds with exposure to listed companies.

Keva, the €24.3bn Finnish local government pension fund, has also been hesitant about commodities. The decision to take on the asset class was based on its ALM study from two years ago, but it only started investing last December.

“We’ve been quite cautious and had to study the different options and are still considering different ways of investing,” says Timo Viherkenttä, deputy CEO at Keva.

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