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Are Commodities Only for the Brave?

Commodities have a reputation for being a risky asset. Many investors are simply scared of investing in this asset class. This fear is largely unfounded because, statistically, there’s no greater risk in investing in commodities than there is in investing in stocks.

For whatever reason, investors have shunned this asset class in favor of what they think are more “prudent” investments, such as stocks. This reaction is quite baffling, because the performance of commodities in recent years has exceeded that of stocks.

For example, between 2002 and 2005, the Dow Jones Industrial Average returned a respectable 7 percent. However, the Dow Jones–AIG Commodity Index, which tracks a basket of commodities, was up more than 21 percent! In fact, in 2002 alone, whereas the Dow Jones Industrial Average had negative returns (–7 percent), the Dow Jones–AIG Commodity Index had returns of 26 percent.

A world-renowned market psychologist once made a simple argument that investors are afraid of what they don’t know. Many investors prefer to stick with an investment they know even if that investment doesn’t perform well for them.

For example, during 2000 and 2001, the investing public lost a total of $5 trillion in stocks (remember the bursting of the dotcom bubble?). Yet you never hear the kinds of warnings about stocks that you hear about commodities. Is this a double standard? You can judge for yourself.

Many investors are afraid of commodities because they don’t know much about them. All investments present some risk, but if you understand the issues surrounding them you can invest with confidence.

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