ETF Edge - Soft Commodities & Another Bitcoin ETF

Episode Date: May 2, 2022

CNBC's Bob Pisani spoke with with Sal Gilbertie, President and CEO of Teucrium … as well as Bryon Lake, Global Head of ETF Solutions at JP Morgan Asset Management. They discussed all things soft commodities; the war on Ukraine is having an unprecedented impact on wheat, corn, soybean and sugar prices. Plus, a new bitcoin futures ETF has just received the green light from the SEC … but are Wall Street regulators getting any closer to embracing a potential spot bitcoin ETF? In the ‘Markets 102’ portion of the podcast, Bob continues the conversation with Bryon Lake from J-P Morgan Asset Management. Hosted by Simplecast, an AdsWizz company. See https://pcm.adswizz.com for information about our collection and use of personal data for advertising.

The ETF Edge podcast is sponsored by InvescoQQQ, supporting the innovators changing the world. Investco Distributors, Inc. Welcome to ETF Edge, the podcast. If you're looking to learn the latest insights on all things, exchanged, traded funds, you're in the right place. Every week we're bringing you interviews, market analysis, and breaking out what it all means for investors. I'm your host, Bob Pisani. Today, on the show, we'll cover all things. Commodities.

The war in Ukraine is having an unprecedented impact on wheat, corn, soy, and sugar prices. And we'll break it down with you with the man who runs a suite of commodity funds at ToonKoreum. Plus, new Bitcoin Futures ETF has just received the green light from the SEC, but are Wall Street regulators getting any closer to embracing a potential spot Bitcoin ETF? Here's my conversation with Sal Gilberti, President and CEO of TuKrim, as well as Brian Lake, global head of ETF solutions at JPMorgan Asset Management. Sal, I want to start with you.

I want to talk commodities. Your corn and wheat ETFs, they've seen huge inflows in the past few months. Explain to us how they work. I always want to review these futures ETFs. These commodity ETFs, they have futures contracts. They have different expiration dates, correct? Just walk us through this. That's right.

When money comes into the fund, we buy three different futures contracts in each fund. We never buy spot. We're always letting people participate what they call along the curve of futures. So essentially, do you think the price of the commodity will go up? You buy the fund and those futures contracts go up. The fund does what those futures contracts do, up or down, and it allows you to participate in that price movement by trading the ETF. Okay, so you have made the point, Sal, that Ukraine is a very important source of supply

for corn, and this is a critical moment for the global corn harvest. Your corn ETF just hit a seven-year high. Why is this a critical moment for corn? It's critical because it's corn plant. season in the northern hemisphere. And Ukraine, which is a major exporter of corn, the planting is interrupted, obviously. So what we've got are two things. Ukrainian farmers, we don't know how much corn they can plant. And if that corn isn't planted, it won't exist at all. And they're a major exporter of corn. They're about between 14 and 16 percent of global corn exports come out of Ukraine.

If they don't plant it, they won't have it to export. That could be a big issue. And we've got corn growing and about to be harvested in Brazil in the southern hemisphere, and we'll see how that goes, because that's what can replace it right now. U.S. and Ukrainian farmers are just now starting to play. And you've also made a very good point to me that Russia is the largest exporter of fertilizer in the world, and if you have less fertilizer out there, well, you have a lower yield on corn here. Let me just ask you have one other point you made here. Russia is the world's largest exporter of fertilizer. I mentioned that as well. I want to talk a little bit about what's going on with wheat right now.

And I think what's very important here about wheat here is the Ukraine is an important source of that as well. This gets harvested in June. Wheat gets harvested. What's the outlook right now for that? Well, the outlook is, again, you're right. The wheat is planted in the autumn. It grows now. It wakes up after winter and it grows.

It should be fertilized now so that fertilizer disrupting new reactions could have a problem, could have a problematic effect on the growth of wheat in the use. Ukraine. But the wheat is there. It's growing. Will they be able to harvest it? That's the big question. Harvest season is late June and July. If they can't harvest it, they can't export it. It could be an issue. Ukrainian government is saying about 50% of their wheat exports may be inhibited or lost completely. And that's a bigger problem for the world as we move forward here, because those inventories being trapped are going to cause the supply disruptions for global wheat. Brian, I know you don't run the commodities desk for J.P. Morgan, but they have an enormous commodities division as well here.

Can you summarize what J.P. Morgan, or your thinking is on commodities? Yeah, well, and I'd add a little bit different angle to what Sal has talked about. So if we think about the ETF space, $7 trillion of assets invested there, and actually overall commodity ETFs have seen outsized inflows year to date to the tune of about $20 billion. What I'm seeing there is that's investors that are preparing their portfolio for an inflationary investment. commodities can participate positively in an inflationary environment, so that's what investors are doing. Yeah, I think that's an important point. So now, Sal, let's just talk about the sort of broad picture story here. What effect has this war and COVID had on the global commodity market? So, you know, we always talk about globalization, and it's been a very real phenomenon for

commodities, too. Commodities have benefited from globalization. What is less globalization, for example, mean for commodities right now? I think things get hurt because all the global supply chains have been disrupted, and not just the specifics of wheat and corn exports out of Russia and Ukraine. It's more, no one can count on their supplies anymore. And so people got used to operating just in time. If you use 10,000 tons of copper a month, you knew it would come every 30 days and you didn't have any excess inventory. I think that that model is disrupted now across all commodities. And so people are going to hoard. They're going to have to at least accumulate inventories to build in anticipated supply disruptions,

which means the demand for commodities is actually a little bit higher, not for the actual use, but because people can't count on steady supplies, so they need to buy what they need this month, plus buy what they need to store in case they don't get their shipments next month. So I think the global disruption of supply change is probably the biggest ripple effect out here from the war. Okay, so the bad news is we've got commodity inflation. and it's going to be longer lived because of hoarding. But what about the other side of that? It could higher prices spur more innovation, for example? I mean, that, why wouldn't that happen? It will. It just takes time. I think that, you know, the old adage that higher prices get rid of high prices is true

because, you know, in the case of farmers, everyone will plant. It takes one season for every farmer to plant and get more crops if they're able to plant. It takes a long time to drill an oil well and even longer time to build a mind. And so the longer prices stay high, the more motivated people are to produce, the more innovation comes. Things will be invented, ways to produce that we don't even know yet. And that will happen. So over time, the good that can come out of this is that it will spur innovation, it will spur more production. It's hard to believe now, but there'll be more of each and every commodity we're talking about than there ever was before a few years from now. Do you buy under? That makes sense what he's saying to me. An agricultural revolution happened 50 years ago. Why couldn't we have another leg up in the agricultural revolution?

I totally agree, but I think there's going to be a lag in time between when that can come online and what we're dealing with today. And that's going to take a little bit of time to figure out. I want to talk to you, Brian, a little bit about the other hot topic, which was the big hot topic at the ETF conference recently, and that's bond alternatives and maybe low volatility equities. That's a hot space. You've seen significant inflows into some big bond ETFs. your ultra-short income ETF, the symbol of JPST. That's had this big inflows recently, as is everybody else.

What is that and why are people flocking to that as a bond alternative? JPST is a symbol. Here's the challenge, Bob. Investors know that the Fed has indicated that they're going to raise rates. In a rising rate environment, that's going to hurt your bond investments because of the old teeter-totter, right? So investors are looking for alternative ways to get that income into their portfolio. So JPST is a great example. It's an ultra-short ETF with a duration of less than a year.

Investors are really using that as a risk off, a step out of cash within their portfolio, but still achieving some yield. It's now north of 1%, which we haven't seen yields like that in a long time, right? Remember, it wasn't too long ago. There was $17 trillion in bonds with negative yields, and now we've only got about $3 trillion with negative yields. So we're seeing that. The other thing we're talking about now is,

and we talked about it with commodities, outsize flows into the commodity space, also outsized flows into the covered call space. So we've got an ETF JEPI. This is an equity portfolio, but using covered calls, some options, we can generate income above and beyond that, because even though we have inflation... And this just JEPI intrigues me, because this is the low volatility story, right? Correct. So that's been a big winner this year.

Stocks that have lower volatility doing better, generally, you know, a lot of consumer names, for example. You've also seen significant inflows into that JEPA, you mentioned. That's the equity premium income. Yeah, so we would... This seeks to provide similar returns, the S&P... 500 with lower volatility and you get a monthly income, right? So you're selling calls here, right?

Yeah, how does this work? This gets my head spinning. I try to explain to people. It's essentially, you're getting a little extra income because you're selling calls. It's pretty straightforward, and this is a strategy that's been around for decades, right? So a basket of equities and then writing covered calls on those equities. So the S&P is down 13% year to date. JEPI, our covered call strategy, is only down 5%.

So there's your low volatility story. But at the same time, we're targeting a 6 to 9% distributable yield because of that extra premium that's coming through on those covered calls. But we've actually been able to achieve quite a bit higher than that, given the volatility that's coming through the markets these days. And so that premium is a little bit higher we've been able to achieve in some instances above 10%. So the objective here is same return as the S&P 500 index with lower volatility combined with monthly income, essentially. That's what you're doing. Yeah, yeah, I don't want this to sound too perfect. I mean, you are giving up some of the upside when you're getting those options, right?

But the idea is you can have some protection to the downside. You're not going to take all of that downside capture as shown year to date, with the S&P being down 13, us only down five. But then it also is going to get you that distributive yield. And remember, you're not taking on the duration. Importantly, you're not taking on the duration. You can still get that income, but you're not taking on the risk of duration in a rising rate environment. Sal, I'm moving around a little bit, but I've got you here,

and I got to ask you about Bitcoin. You recently received approval for a Bitcoin Futures ETF, and of course everyone still speculating endlessly that the SEC may someday approve a spot Bitcoin ETF, maybe this year, maybe not. Now, what's interesting is the SEC's approval letter to you contained a footnote, which you believe clearly spells out

what the Bitcoin community needs to do to get approval for that spot Bitcoin ETF. What was said in the state? this letter to you? The SEC clearly laid out in footnote number 46, for those who are looking at the document, where they want the crypto exchanges to mimic the other exchanges in that they have a comprehensive surveillance agreement, meaning they're watching for bad actors. The SEC is all about investor protection. They know there are bad actors out there. They want to be able to spot them. So they've clearly spelled out that if the crypto exchanges put in those surveillance

agreements and then institute those comprehensive surveillance agreements with the ETF listing exchanges, they will get a crypto spot ETF. I don't think it's going to happen because I don't see why those big crypto exchanges would want to centralize when the whole industry's made up of the decentralized concept. They've set up, I mean, this is a real problem. Isn't this the problem? This centralizes a business that's supposed to be decentralized, right? I mean, why would crypto exchanges agree to submit themselves to the regulation the SEC says they want when the purpose is to be decentralized? I don't know. It's a conundrum. It is. And really, the people who want to spot Bitcoin ETF for ease of access to ETF, they're the people that are getting shortchanged here because nobody has a motivation to centralize themselves that's in the crypto industry.

So it's a conundrum. I don't see it getting solved this year or even next. We'll see what happens. Yeah, and what's interesting, of course, I've had the people run the gray scale Bitcoin trust. There have been threats from them that they may sue the SEC if they don't approve a spot Bitcoin ETF. I mean, what are the chances that would succeed? That would take years anyhow, right? That's right. It would take years. And again, the SEC, they're not going to succumb to that kind of pressure. What they are all about is investor protection, rightfully so. They're going to stick to their guns. unless you get a change in leadership who have a sea change in how they're looking at things. And right now they're looking at they want to see crypto coins completely surveilled.

And I don't see how that's going to happen. And the SEC, I don't see how they're going to back down from that when they're all about investor protection. So you, I hate to make you handicap this, but it seems you're saying the chances are pretty nil, pretty small for any kind of spot Bitcoin approval this year. I would say under current leadership because they've drawn a red line to sand. So unless something fundamentally changes, I don't see it happening. Anything else that you see out there that's really interesting? I mean, commodities was a space in the ETF business, the kind of language for years in the sort of the basement of the ETF ballpark.

And all of a sudden, it's emerged as a major player that's out there. Anything that you see is, and you've been around for a while in the ETF space that's going to be a, a major new player later this year? I mean, who would have thought, for example, you know, Brian, we're talking about low volatility. Low volatility. Nobody cared about low volatility stocks. And all of a sudden, ETFs that have low volatility

and high dividends, who would have thought that combination would go anywhere? And it's a big star this year. I think we're seeing normal rotation in markets, right? You know, we know what the last couple of years looked like. We had a ton of Fed printing and quantitative easing. And now I think the winds have shifted a little bit. And I think that happened, that started.

to happen at the beginning of the year. It certainly started to happen at the beginning of Q2. We're seeing investors take risk off. We've seen net $11 billion of outflows in equity, net, net, net, 11 out of equity ETFs just this quarter. And so I think what we're seeing as a healthy rotation in investors' portfolio is because the winds have shifted. Yeah, it just goes to show you, you know, Sal, if you sit around long, as Brian was saying, if you stand around long enough, all of a sudden, everything comes back into favor. Did you have any thoughts on the question I asked there? I think that people are more aware of commodities,

and commodities like grains where they traded their cost of production for long periods of time. I think people are going to realize once those prices get back down there, that's the time to layer them into your portfolio and just wait, because there's always a supply disruption, and people don't stop eating just because there's a supply disruption. And so I think that's one of the bigger functions. The other thing the market may look to doing is, more actively managed funds in both stocks and commodities because they're tired of a monodirectional

market either up for years or down for years. They want some returns no matter what the direction of the market is. And so I think you'll see some active management come to light in the next year. I know what Brian feels about this. The question is whether active management can actually deliver on that promise. I don't want to go down that rabbit hole right now. Maybe you and I can talk about this in the podcast. Now it's time to round out the conversation with some analysis and perspective to help you better understand ETFs. This is the Markets 102 portion of the podcast, and today we'll continue the conversation with Brian Lake from J.P. Morgan Asset Management. You know, Brian, I didn't have a chance to talk to you about the macro view of things and how difficult it is. I was just at the ETF conference in Miami Beach.

And the RIAs, the registered independent advisors, were quite terrified of the fact that they're, in a way. active management. They manage a suite of ETFs for their clients. A lot of them are still 60-40 and stocks to bonds and they're terrified about what to do. The macro outlook is about as tough as I've seen it. In the 32 years I've been here, the Fed and inflation are threatening the U.S. economy. Ukraine and the war there is threatening the European economy. And this COVID slowdown in China is threatening the Chinese economy. These are three separate threats

for three of the biggest geographic and economic areas in the whole world. So it's very tough to figure out, you know, what to be telling these registered investment advisors, other than the fact that they're trying to figure out how do they save those bond portfolios right now? Globally, is there any – are you seeing any very clear trends? So we're not seeing any clear trends. And to your point, the dashboard is flashing red. S&P, down 13%. NASDAQ down 20%.

Russell growth, down 20%. The only thing that we're seeing up on the dashboard right now is energy. Up 36%. We know the story behind that. There's supply challenges with that, and so that's driving the price up. And what we're seeing with market sentiment right now is it is very touchy.

It's very difficult to understand what direction to take portfolios. So let's take it back to basics. You start with what's the objective? What am I trying to achieve here in my portfolio? So what we've seen there is there's still steady trends in things that achieve income. People that are looking for income, that tends to be an objective that's not a relative return story, but it's an income story. I'm retired and I need continued income.

And so you've continued to see that. You've seen some conviction around kind of this inflation trade. We talked a lot about commodities, but that continues to be an area. You know, some of the challenges with inflation is, you know, things like tips and some of these other things don't really give investors that move that they think they're going to get. It just kind of mutes the thing. It doesn't actually move in the way that people think, whereas commodities can actually have kind of that inverse correlation to inflation,

so it can actually perform positively in an inflationary environment. People are always shocked when they buy tips. They say, but it doesn't move. It doesn't do anything. It just prevents from having big losses. Yeah, and it's not a bad thing to have in your portfolio, and there's a place for it, but you want to make sure that your expectations are correct. I want to bring up the whole active versus passive management.

Elon Musk was tweeting about active management over the weekend. Of course, the problem I have is the old point about this, that the active guys always say that in a really bad market. That's when active management really shines and outperforms, maybe won't in a sideways market. But it's not true historically. It doesn't work. And yet we're again seeing the active management people,

and we are seeing some inflows into active management. There we are. ETFs, your thoughts on that? Yeah, so to the inflows point, active makes up 4% of all ETF assets. Year to date, Active has accounted for 16% of flows. So investors are seeing something that they think makes sense in their portfolios. Now, I think the argument has been slightly framed incorrectly. I think if you do relative performance over 1, 3, 5, 10, all that sort of stuff,

it does become a bit of a mixed bag on the equity side. On the fixed income side, I think that's a different story, and we can touch on that. But what we're seeing is investors are investing in active strategies and their ultra-short strategy. So they're pulling duration in. And they're using, so in the instance of JPMorgan, we've got JPST. This comes out of our global liquidity desk. And so we do a lot of management in that space. This is investors stepping out of cash, out of their money markets, taking on a little more duration risk to get a little bit of yield into the portfolio.

JPST is the largest active ETF in the world with $19 billion in it. So it's substantial in that sense. JetB is the other one that we've talked about. Again, this is more of an outcome-oriented strategy as opposed to relative strategy versus a benchmark. This is for investors that are looking for income, but that are worried about duration risk. And so we're getting that income through the option.

You're owning the S&P 500, and you're selling the call here, so you're getting income from it. The underlying basket is an actively managed basket of security, so it's not just the S&P 500, but it's a quality basket of stocks, and we do benchmark to the S&P 500. but you're not taking on the duration to get there. You mentioned stocks versus bonds.

Could an argument be made that active management in this situation would be more successful in bonds versus stocks? Do you have an opinion on that? I absolutely think that that's true. Now, think about how an index is constructed. And why, though? Well, think about how an index is constructed, right? So here we are at the New York Stock Exchange.

Dow Jones Industrial Average, one of the most widely followed benchmarks, was invented back in the 1890s. S&P 500 was invented in 1923. At the time, it only had 233 constituents. They didn't expand it to 500 holdings until the 50s. These are indexes that were never intended to be invested in products. They were proxies.

Did the market go up today or down today? Now, it just so happens that when Jack Bogle and the others put those into an investable wrapper, it was a very good way to get exposure to the market. But a market cap-weighted index buys, by definition, the most overvalued securities. it overweights the most overvalued securities and underweights the most undervalued securities because think about what they're doing. Outstanding shares times price,

what is the market cap is a representation within the index. That's what's happened on the equity side. That's what's happening on the fixed income side. On the equity side, pretty difficult to manage in a world like that when the index is continually refreshing itself like that. On the fixed income side, what that actually means is you're overweight the biggest debtors.

This index is overweight the biggest debtors, and that does become a challenge. know anybody that invest in the fixed income space intentionally saying, oh, give me the biggest debtors. They say, I want to understand what the risk profile, the credit profile, the yield profile of the bond is, and then they invest accordingly with that. Active management can do that in the fixed income side, where we have portfolio managers that literally touch every one of these bonds and select which one goes into their portfolio based on the returns that they're trying to achieve as opposed to being dictated by what the index rules that were written.

decades ago are going to give them. Duration drifts, yields drift, credit quality drifts. Explaining it simply why active management in bonds might be more successful than active management in stocks. You can individually pick stocks too. You can handpick them. What's the difference? You can. You have the first instance where stocks trading on the exchange with real-time pricing, it becomes a very efficient marketplace. And it is very difficult to have that edge where you can you can outperform or underperform on the equity side. On the fixed income side, it's not that efficient from a trading perspective. So there is information to be gleaned there.

And then I do go back to how the indexes are constructed on the fixed income side. I made that point earlier, but I do think that that's an important distinction on the equities versus fixed income argument. I have railed against the fact that the bond market is 20 years behind the stock market in terms of moving towards electronic trading and making it more efficient. Is that, do you see progress here? I think ETS play a huge part in that, right? If you think about an ETF, this is the digitization of bond pricing.

So, you know, you've got hundreds of billions of dollars invested in fixed income ETFs and they trade on the exchange real time throughout the day. And I do think that that's a big step in the right direction for making fixed income trading more efficient. Okay. Brian Lake from J.P. Morgan, Asset Management. Always a pleasure to have you here. Thank you very much. And thank you folks for listening to the ETF.

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