Want to know how big the commodity boom is? The PowerShares DB Agriculture ETF—or DBA—is basically full.
More accurately, the fund-which invests in commodity futures contracts-has reached its position limits in some of its commodities.
The commodity exchanges and the Commodity Futures Trading Commission set maximum amounts that certain investors can hold in individual commodities. DBA’s assets have soared recently, adding nearly $1 billion in assets in February alone (to hit $2.8 billion), and that asset growth has pushed the fund against CFTC position limits. As a result, as PowerShares DB said in this filing with the SEC, DBA has started trying to replicate the returns of the index by investing in futures that are similar … but not identical … to those in the index itself.
Right now, here’s the split between what the index tracks and what the fund actually holds.
First, it has started buying contracts with different expiration dates. For instance, the index tracks the performance of the corn futures contract expiring in December 2008. But the fund includes both that contract and a separate contract expiring in July 2008. Historically, those two have tracked very close to one another, but of course, that doesn’t have to be the case.
The second thing the fund has done is buy contracts on different exchanges. In the wheat markets, the fund has diversified beyond Chicago wheat contracts to buy contracts in both Kansas City and Minneapolis. But these contracts don’t just trade on different exchanges, they are actually different kinds of wheat: Soft Red Winter Wheat (Chicago), Hard Red Winter Wheat (Kansas City) and Hard Red Spring Wheat (Minneapolis).
These different varieties tend to perform in similar ways, but not always. They serve different kinds of markets and, because the harvests come due at different times, they can be impacted by different seasonal and weather patterns. Minneapolis wheat, for instance, has seen extraordinary gains recently due to near-term crop shortages.
Finally, the index has diversified into alternate or "derivative" contracts for soybeans, buying not just the beans themselves but soybean meal as well. These two products are related, but of course, they do not track perfectly.
Should any of this worry investors? Not necessarily. This fund still offers strong exposure to the agricultural futures market.
But it does raise some concerns. Deutsche Bank, for instance, claims that the underlying index is designed to pick the most profitable contracts for each commodity based on the expected roll yield. Simple logic, then, suggests that alternate contracts could be suboptimal. And the addition of different types of contracts raises some tracking risk against the index.
The CFTC is reconsidering the limits it places on investors, and may increase them in the future. If they don’t, we may see more funds adopt the model of DBA and using alternate contracts to try to approximate the returns of the index itself.
This may in the long term give an advantage to the exchange-traded note structure, as notes won’t be directly limited in size.