Is this America’s worst investment?
Investors have poured billions into exchange-traded funds that attempt to track the prices of raw materials. But when commodities go up, commodity ETFs often don’t.
Like so many investors in the spring of 2009, Gordon Wolf needed to dig out of a hole. A 68-year-old psychologist in Napa, Calif., Wolf was a buy-and-hold sort of guy, yet the nest egg he had entrusted to his broker at Merrill Lynch was down more than 50%. The broker had invested much of it in exchange-traded funds, or ETFs, a financial innovation that was replacing mutual funds in the hearts and portfolios of many investors.
An ETF, which can be bought or sold like a stock, attempts to track the price of a particular basket of assets — tech stocks, for instance, or high-yield bonds, or commodities ranging from wheat to gold.
The commodity ETFs were supposed to offer a hedge against equity losses, but in the crash of 2008, everything fell in tandem. As oil declined to $34 a barrel in early 2009, Wolf sensed an opportunity. He called his broker and asked about U.S. Oil Fund (USO), an ETF designed to track the price of light, sweet crude. Wolf had the broker buy about $10,000 of USO.
What happened next didn’t make sense. Wolf watched oil go up, as predicted, yet USO kept going down. Crude rose 7.4% in February 2009 while USO fell by 7.4%. What was going on? Wolf logged on to Seeking Alpha, a financial blog, and found plenty of angry discussions about the fund. Lots of people were losing lots of money, because thousands of American investors had seen the same sort of opportunity Wolf had.
Investors by the end of 2009 had put a record $277 billion in commodity ETFs and other securities linked to raw materials — a huge jump from $5.5 billion a decade earlier, according to Barclays Capital. During that time, Wall Street had transformed the reputation of commodities from a hypervolatile investment that can steal your shirt to a booster for battered portfolios, something that rose when stocks fell and hedged against inflation.
People who would never think of buying a tanker of crude oil or a silo of wheat could now put both commodities in their 401k’s. Suddenly, everybody was a speculator.
And some were losing big. The commodity ETFs weren’t living up to their hype, and the reason had to do with a word Wolf had never heard. As he browsed the blogs, he says, “I’m seeing people talking about something called contango. Nobody would define it.”
Wolf called his broker and asked about contango. “I don’t know what it is,” he replied.
Wolf called his other broker, at Charles Schwab (SCHW, news, msgs). “He didn’t know either,” he says. “He said he’d ask around.”
Weeks later, after Wolf educated himself, he fired his Merrill broker and pulled out his money. (Merrill and Schwab declined to comment.) By then he had lost $2,500 on USO. “If it wasn’t a rigged game,” he says, “I could figure it out. But it is a rigged game.”
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