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4 Commodity ETNs Traders Should Avoid (SGG, JO, GAZ)

June 13, 2012 1:33 pm
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There has been ample chatter regarding the destruction of the “risk on” trade. Predictably, “risk off” has bolstered the fortunes of the U.S. dollar, a situation that will be a thorn in the side of plenty of sector ETFs.

The dollar’s resurgence and the repudiation of risk on has been dour news for myriad commodities ETNs as well. Oil has been a predictable victim, but other commodities have been badly beaten in recent weeks. That troublesome roster includes agricultural and soft commodities, among others.

Here is some friendly advice: Avoid the following commodity ETNs for now. Those with a sense of adventure and a strong stomach should consider shorting them or using put options when applicable.

iPath DJ-UBS Sugar TR Sub-Index ETN (NYSE: SGG)
Sugar is arguably one of the most volatile commodities to trade in the world, and while it is safer for the average investor to be involved with SGG than sugar futures, this ETN does not skimp on volatility. Currently trading just over $74, SGG was trading around $94 three months ago. In July 2011, this was a $106 ETN.

In the U.S., sugar is also highly regulated. The federal government imposes import quotas on major sugar-growing nations, with the exception of Mexico. This supposedly protects American sugar farmers and puts a floor on prices, but no one really knows where SCG’s floor is. Brazil, India and China are the world’s three largest sugar growers. Remember this about sugar as an investment thesis: this is a trade not an investment. After all, sugar is given away free of charge at most restaurants in the U.S.

iPath DJ-UBS Cotton TR Sub-Index ETN (NYSE: BAL)
The iPath DJ-UBS Cotton TR Sub-Index ETN makes this list despite jumping almost 9% in the past five trading days. That may sound like an accomplishment, but it does not obfuscate the fact that BAL has plunged 18.3% year-to-date. The 9% weekly pop also does not hide the fact that in March 2011, BAL was flirting with $111.

Cotton prices may finally be low enough to encourage China to do some dip buying, which the country has been known to do when prices fall. The problem is that production by the world’s largest cotton exporter–the U.S.–is expected to rise this season. Rather than short BAL, investors can initiate long trades on apparel makers that have previously cited high cotton prices as a drag on their profits.

iPath DJ-UBS Natural Gas TR Sub-Index ETN (NYSE: GAZ)
This decline was seen coming a mile away. GAZ gained infamy in the days following the VelocityShares Daily 2x VIX Short-Term ETN (NYSE: TVIX) debacle because GAZ was another ETN trading at a substantial premium to its closing indicative value, providing arbitrageurs with an easy opportunity to deflate that premium by shorting this ETN.

What is worrisome is not the recent volatility in natural gas prices, rather, it is the fact that even though GAZ has lost 42.1% in the past three months, the ETN still trades at a significant premium to its daily indicative value. GAZ currently trades for just under $3. Its daily indicative value is $1.93, according to the iPath Web site.

iPath DJ-UBS Coffee TR Sub-Index ETN (NYSE: JO)
If not for Green Mountain Coffee Roasters (Nasdaq: GMCR), JO could easily be the worst-perfoming coffee-related security in 2012. Year-to-date, the ETN is off more than 34%, but that looks good compared to Green Mountain’s 52.8% plunge. JO has seen its share price nearly cut in half since September 2011.

Arabica coffee futures traded in New York fell to a two-year low on Tuesday. Adding further pressure to coffee prices are expectations for strong supplies out of Brazil, the world’s largest coffee producer, for the next two seasons.

For more on short opportunities with ETNs, click here.

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