Exchange-traded commodities: What is an ETC?

• Level: Advanced
• Reading duration: 3 minutes

How do ETCs work?

Exchange-traded commodities, in short ETCs, offer the possibility to invest in single commodities and precious metals with ease. The performance of an ETC is based either on the spot price (price for the immediate supply) or the future price (price for the supply in the future) of a single commodity or a basket of commodities.

Oil ETF: Why there is none in most European countries

Investors can invest in a broad range of commodity indices cost-effectively with commodity ETFs. However, in most European countries there is no ETF that represents the performance of a single commodity. This is because an ETF must always be diversified. ETFs must ensure a minimum level of diversification and may not hold any physical commodities as per the UCITS guidelines. Thus, it is not possible for statutory reasons to issue a Gold ETF or an Oil ETF.

What is the difference between ETF and ETC?

If you want to invest only in a commodity, you must buy an ETC. There are ETCs (exchange-traded commodities) for

• precious metals
• industrial metals
• oil
• natural gas
• soft commodities
• livestock

ETCs are traded on the stock exchange just like ETFs and offer the same advantages. But there is an important difference: the capital invested in an ETC is not a fund asset that is protected in case of insolvency of the issuer. ETC concerns a debenture of the ETC provider. The investor has an issuer risk in the case of an ETC as compared to an ETF. Issuers rely on different methods of collateralisation for the minimisation of this risk.

Exchange-traded fund (ETF) vs. exchange-traded commodity (ETC)

Experts differentiate between physically-backed ETCs and completely collateralised ETCs.

Physically-backed ETCs

Most of the precious metal ETCs (Gold, Silver, Platinum, Palladium) generally indicate the spot price and are physically secured. So physical gold bars are stored in the treasury of a trustee as security in case of physically secured gold ETCs. The issuer risk is thereby eliminated in the case of physical ETCs. Physically backed ETCs are also available for some industrial metals, such as copper or nickel.

Completely collateralised ETCs (Swap based)

Completely collateralised ETCs are also backed with collateral, which is basically checked on a daily basis. However, the collateral here is not in the form of precious or industrial metal stocks, but in the form of cash investments or securities with top credit standing.

Commodity ETCs on futures: rolling profits and losses possible

Commodity ETCs for oil, natural gas or soft commodities basically represent the performance of the underlying futures market. Since the futures have only a limited life, the ETC issuer must sell these regularly before maturity and buy new futures. This process is called “rolling the futures” in the stock exchange jargon. Depending on whether the acquired futures are more cost-effective or more expensive, rolling profits or losses are realized. This means that you should consider the situation in the futures market in addition to the general market trend for commodity-ETCs since the rolling profits and losses can have a severe effect on the performance of ETCs.