Commodities investors increasingly have access to a wide range of sector-based products including energy, industrial metals, precious metals, agriculturals and many others—both broader and narrower. Here we explore how the returns of the major commodities sectors are related to economic activity, as measured by the NBER-dated recessions and the OECD composite leading indicators (CLI). Understanding this relation is potentially valuable to investors, allowing those with views on future economic activity to position their commodity portfolios appropriately. We find the industrial metals and the energy sectors are procyclical (their returns vary with economic activity), while the grains and softs sectors are defensive (their returns are relatively insensitive to economic activity). Precious metals and livestock lie somewhere in between. We also find that a simple strategy that rotates between cyclical and defensive commodities based on the OECD CLI does better than the defensive, procyclical or equally weighted sector portfolios.
The commodities we study are those contained in either the Dow Jones-UBS Commodity Index or the S&P GSCI (the former Goldman Sachs Commodity Index), omitting duplicates (e.g., we include WTI crude oil, but not Brent crude oil), and including tin, platinum and soybean meal, based on the subjective assessment that they are important economically, have liquid futures markets and are of interest to investors. The 25 commodities identified by their sectors are listed in Figure 1.
We construct (excess) investment returns for futures by taking a long position at the end of each month in the nearest-to-expiry future that does not have its first notice date or expiration date in the next month. Further, we form six commodities sector portfolios (industrial metals, energy, precious metals, grains, livestock and softs) consisting of equally weighted positions in all of the commodities within the sector available at that point in time.
Using statistical methods, Bhardwaj and Dunsby  identify five commodities sectors: industrial metals, energy, precious metals, grains and livestock. They do not find a softs factor. Coffee, sugar, cocoa and cotton do not cohere to a common sector, and can be best categorized as miscellaneous agriculture.1 They further show that different commodity sector returns have different sensitivities to the business cycle. Agricultural commodities tend to be less affected by the business cycle than industrial commodities such as industrial metals and oil.