Hedging against the cost of living
Financial planners can use commodity exchange-traded funds (ETFs) as a hedge against client concerns about the cost of living, says Neville Ward Advice partner/director Andrew Reeve-Parker.
If a client is worried about the rising price of petrol, planners can work out how much of their spending is affected by oil and then allocate to the Crude Oil Index ETF (OOO) as a hedge, he said.
The daily correlation of Woodside Petroleum with the spot oil price is only one-third, making it a poor proxy, Reeve-Parker said.
Conversely, the oil ETF tracks the performance of the S&P/GSCI Oil index, which has a 0.95 daily correlation with the spot oil price, he said.
The Agriculture ETF (QAG) can also be used to hedge against the risk of rising food prices, Reeve-Parker said.
"Even if agriculture prices come down in value, that should be more than matched by the drop in the expenses you incur just to eat," he said.
The availability of commodity ETFs means that advisers don't have to send their clients "down the road" to a futures broker, Reeve-Parker said.
"If that happened, we'd lose control of the relationship and our client might not get the best solution," he said.
The US dollar ETF (USD) can also be used as a hedge against Australian equities, since the correlation between the ASX 200 and the US dollar has been close to "negative one" in recent history, Reeve-Parker said.
"The more tools that we have as advisers to be able to hedge client portfolios, the more confidence they have investing in equity markets for the long-term," he said.
While financial planners are generally confident about the returns their clients will average over the next ten years, the interim volatility will often make clients "want to jump ship in the meantime", Reeve-Parker said.
"If through trading ideas we can implement insurance options, they're more likely to stick around for the long-term," he said.
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