Barchart.com ETF Research

ETF Research written by the Barchart.com ETF Research Team

Last Updated: December 20, 2010

Table of Contents

1. Introduction
2. Power Shares DB Base Metal Exchange-Traded Products
3. Barclays iPath Base Metal ETNs
4. Other Base Metal ETP Products
5. Investment Conclusions

Introduction

This report will focus on base metal exchange-traded products (ETPs).  We covered gold and precious metals ex-gold (silver, platinum and palladium) in separate reports.  In this report, we will break down the sector by analyzing the base metal ETP product families offered by PowerShares,Barclays iPath, and others. 

All of the ETP products that currently exist in the base metals sector, and that are discussed below, are based on futures contracts – there are currently no base metal ETPs backed by physical metal.  However, there are three physical copper ETF products that are currently in the registration process:  (1) ETF Security’s Physical Copper Fund, (2) J.P. Morgan Chase & Co.’s Physical Copper Trust, and (3) Blackrock’s iShares Copper Trust.

We generally favor the idea of investing in physically-based metal ETFs that exactly track spot prices (less fees) as opposed to ETP products that track futures and have returns that often deviate substantially from spot prices due to the futures curve and the roll yield ( for our full report on this topic, please visit “Commodity Exchange-Traded product Performance and the Importance of the Futures Curve and Contango”).  However, copper will be more expensive to store than gold or silver, so we will have to wait to see the final expense fees that are involved with the new copper ETFs and see whether assets under management grow to sustainable levels before drawing any investment conclusions about the physical copper ETFs.

Power Shares DB Base Metal Exchange-Traded Products

DBB - PowerShares DB Base Metals Fund (web site link) – DBB is the largest base metals exchange-traded product with $425 million in assets under management.  This exchange-traded fund is based on the Deutsche Bank Liquid Commodity Index – Optimum Yield Industrial Metals Excess Return,™ which tracks futures contracts using Deutsche Bank’s “Optimum Yield” methodology of choosing the most advantageous futures contract month from the standpoint of trying to maximize the roll yield.  The base weights for the fund are one-third each for aluminum, copper, and zinc.  The weights are reset back to one-third once each year in November and the weights will then fluctuate slightly over the following year depending on the relative movement of aluminum, copper and zinc prices.  The weights at any given time are available at dbfunds.db.com/dbb.  The index weights as of December 14, 2010 were 32.78% in the Sep 2011 Aluminum futures contract, 35.9% in the March 2011 Copper – Grade A futures contract, and 31.32% in the May 2011 Zinc futures contract.  Figure 1 illustrates that DBB and spot copper prices have a generally strong correlation, at least up until mid-November when copper rallied sharply and outperformed aluminum and zinc, and therefore outperformed DBB as well.  The management fee is 0.75% with an estimated futures brokerage fee of 0.03%. 

Figure 1:  DBB-PowerShares DB Base Metals ETF vs Spot Copper Prices (live chart)

In addition to DBB, PowerShares has a suite of exchange-trade notes that focus on base metals (web site link).  The suite includes long (1X) and double-long (2X) ETNs and short (-1X) and double-short (-2X) ETNs, as see in the following list: 

• BDD – PowerShares DB Base Metals Double Long ETN (web site link) - $17 million assets under management (AUM).
• BDG – PowerShares DB Base Metals Long ETN (web site link) - $1.5 million AUM.
• BOM – PowerShares DB Base Metals Double Short ETN (web site link) - $5 million AUM.
• BOS – Power Shares DB Base Metals Short ETN - $5 million AUM.

These ETNs track the same index as the PowerShares ETF (DBB), which means they use the same base weighting scheme of one-third each for aluminum, copper and zinc.  However, these ETN products are simply a promise to pay the designed index return and do not actually hold futures contracts as DBB does.  Specifically, these ETNs are senior unsecured obligations of Deutsche Bank AG, London Branch, which means that an investor could lose his or her entire ETN investment in the unlikely event that Deutsche Bank declares bankruptcy or liquidates for some reason.  These products have minimal assets under management.  We do not recommend an investment in these ETN products due to the very low assets under management combined with the fact that we favor ETFs over ETNs.  In addition, an investor can obtain a leveraged base metal ETF simply by buying DBB on margin in his or her brokerage account.  In addition, an investor can obtain short base metal exposure by shorting DBB in his or her brokerage account.

Barclays iPath Base Metal ETNs

Barclays’ iPath family of base metal ETNs provides a return that matches indexes managed by Dow Jones-UBS.  Those indexes track front-month futures contracts.  The ETNs are unsecured debt obligations backed by Barclays Bank PLC, meaning an investor could lose his or her entire investment in the unlikely event that Barclays Bank declares bankruptcy or liquidates for some reason.  This iPath family has an ETN that covers the overall industrial metals sector (JJM) and also has five ETNs that focus on single metals including copper, nickel, aluminum, lead, and tin.  These ETNs all have an expense fee of 0.75%.

Our investment conclusion for this family of ETNs is to avoid it because (1) the indexes track front-month contracts, which are subject to major deviations from the spot price due to the futures roll, (2) the products are ETNs, which means an investor could potentially lose his or her entire investment, and (3) the assets under management at this time are too low in our view for the nickel, aluminum, lead and tin ETN products.  Despite those caveats, JJC is the only real choice for a copper ETP at this point, at least until the copper physical ETFs are launched.

JJM – iPath Dow Jones-UBS Industrial Metals Subindex Total Return ETN (web site link)  - JMM, with about $65 million in assets under management, has a weight of 43.55% in copper, 28.89% in aluminum, 15.09% in primary nickel, and 12.47% in zinc.

iPath Single-Metal ETNs:

• JJC – iPath Dow Jones-UBS Copper Subindex Total Return ETN (web site link) - $165 million in assets under management (AUM).
• JJU – iPath DJ-UBS Aluminum Subindex Total Return ETN (web site link) - $31 million AUM.
• JJN – iPath DJ-UBS Nickel Subindex Total Return ETN (web site link) - $15 million AUM.
• LD – iPath DJ-UBS Lead Subindex Total Return ETN (web site link) - $5 million AUM.
• JJT – iPath DJ-UBS Tin Subindex Total Return ETN (web site link) - $31 million AUM.
  

Other Base Metal ETP Products

RJZ – ELEMENTS Rogers International Commodity Index – Metals Total Return ETN (web site link) – RJZ was launched in October 2007 and has $58 million in assets under management.  The product is an exchange-traded note that is backed by the Swedish Export Credit Corp, which is an entity that has a connection to the Swedish government.  The fund’s expense fee is 0.75%.  We like this fund’s broad coverage of all the metals including precious and industrial metals and the fact that precious metals do not have an inordinately high weight.  The weights are as follows:  18.957% in aluminum, 18.957% in copper, 14.218% in gold, 9.479% in lead, 9.479% in silver, 9.479% in zinc, 8.531% in platinum, 4.739% in nickel, 4.739% in tin, and 1.422% in palladium.  The disadvantages of this product in our view include the fact that it is an unsecured ETN and that it has a relatively low level of assets under management at about $58 million.

UBM – UBS E-TRACS CMCI Industrial Metals Total Return ETN (web site link) - This ETN, which currently has relatively low assets under management of $23 million, is an unsecured debt security backed by UBS AG.  This product tracks the performance of the UBS Bloomberg CMCI Industrial Metals Index Total Return, less investor fees.  The metal weights are as follows:  44.00% in copper, 33.46% in aluminum, 9.32% in zinc, 8.95% in nickel, and 4.27% in lead.  The fund has a fee of 0.65%. We like the fact that this product tracks futures contracts diversified across five constant maturities from three months up to three years, which reduces the distortions caused by the futures curve and the roll yield.  However, we do not recommend this product given the fact that it is an unsecured ETN and presently has low assets under management of $23 million.

Investment Conclusions

For a base metal exchange-traded product, our pick is the PowerShares DB Base Metals Fund (DBB) for the following reasons:  (1) DBB is an exchange-traded fund that holds futures contracts and is not an unsecured note like an ETN, (2) DBB is based on Deutsche Bank’s “Optimum Yield” strategy for choosing its futures exposure in the most advantageous futures contract from the standpoint of the roll yield, and (3) the fund has a hefty $425 million in assets under management and provides liquidity and longevity.  The fund’s fee of 0.75% plus a 0.03% estimate futures brokerage fee is typical for the sector.  One disadvantage of this fund in our view is that it provides exposure to only three metals (copper, aluminum and zinc) and provides no exposure to other important base metals such as nickel, lead and tin.  Another mildly negative factor is that it provides a one-third weight to copper, aluminum and zinc and makes no attempt to match the weight to the metal’s market size or importance in the global economy.

We like DBB better than the iPath Dow-Jones-UBS Industrial Metals Subindex Total Return ETN (JJM) because  JJM is an unsecured ETN and currently has only about $65 million in assets under management.  Moreover, Figure 2 illustrates that JJM from June 2009 through late 2010 underperformed DBB.  However, a favorable aspect of JJM is that it includes nickel and makes an attempt to weight the metals based on their relative size.

Figure 2:  PowerShares DBB vs iPath JJM base metal ETPs (live chart)

Regarding single-metal ETPs in the base metal sector, the iPath ETNs are the only products available at present.  iPath’s Copper ETN (JJC) has a substantial $165 million in assets and is an acceptable product as long as an investor keeps an eye on the creditworthiness of its backer, Barclays Bank PLC, and watches out for the variable impact on the fund’s return from the roll yield.  The other iPath base metal ETNs for nickel, aluminum, lead and tin have assets under management of less than $50 million and we would recommend staying away from those products until their AUM expands.

From the Barchart.com ETF Research Team
Last Updated:  December 20, 2010

ETP’s mentioned: DBB, BDD, BDG, BOM, BOS, JJM, JJC, JJU, JJN, LD, JJY, RJZ, UBM

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