A commodity index returned 1.5% in spot gains last year, yet the fund tracking it lost 2%. The culprit was not fees. It was roll yield, and understanding where that drag comes from separates candidates who pass from those who guess.
You can get commodity exposure without touching a futures contract. Four main routes:
- Physical ownership: buy gold bars, store crude oil, hold silver coins. You bear storage and insurance costs, but you get direct spot price exposure with no roll yield drag.
- Commodity producer equities: buy shares in mining companies, oil producers, or agricultural firms. The problem: stock prices track company-specific risks (management, leverage, hedging policies) as much as the underlying commodity.
- Physically backed ETFs: funds that hold the actual commodity in vaults. Gold ETFs like GLD work this way.
- Commodity-linked notes and swaps: structured products tied to commodity prices. Some reference spot prices, others reference futures indices.
DECISION: need zero roll-yield drag and direct spot exposure → physical ownership or physically-backed ETF; want equity-like liquidity and can tolerate tracking error → producer equities; need a customized payoff...
Common mistakes
- Confusing contango with normal contango. Contango means futures exceed current spot; it describes the curve shape. Normal contango means futures exceed the expected future spot; it describes the risk premium. A market can be in contango and normal backwardation simultaneously. The exam tests this distinction directly.
- Assuming contango means spot prices will fall. Contango describes the term structure of futures prices at a point in time. It says nothing about where spot prices are headed. Oil can be in contango while spot prices are rising steadily.
- Forgetting the collateral yield. Total return has three components, not two. On a fully collateralized position, collateral yield can be substantial. An answer of 2% (spot 5% plus roll -3%) ignores the 4% collateral yield. The correct total return is 6%. Trap answer: 2%.
Bottom line
- Total return = spot return + roll yield + collateral yield: all three matter, and roll yield is usually the dominant swing factor (a fully collateralized position can earn substantial collateral yield).
- Contango = futures price > spot (upward-sloping curve); backwardation = spot > futures (downward-sloping). These describe curve shape, distinct from normal contango/backwardation, which describe the risk premium versus expected future spot.
- Roll yield is negative in contango (buy high, sell low) and positive in backwardation (buy low, sell high); curve shape is not a price forecast.
- The cost-of-carry model links spot, futures, risk-free rate, storage costs, and convenience yield; inelastic supply (annual crops) raises convenience yield while perfectly elastic supply pushes it near zero.
Exam shortcut
When you see a question about commodity returns, immediately decompose into the three components: spot, roll, collateral. Most traps involve omitting one. For contango vs. normal backwardation, ask two questions: "Is futures above current spot?" (contango/backwardation) and "Is futures above expected future spot?" (normal contango/normal backwardation). These are independent assessments. For Hotelling vs.
The full lesson (about 6,280 words, 42 min read) adds 3 worked examples, all 8 common mistakes, a self-check, free in the app.
Learning objectives
- natural resources
- land
- timber
- farmland
- contagion indices
- timber farmland returns
- commodities no futures
- term structure
- rolling contracts
- backwardation contango
- commodity diversification
- expected returns
- commodity indices
- commodity returns
- commodity producers
- mlps
- infra overview
- infra classifications
- investing infra
- infra risks
- ip overview
- ip cash flows
- art
- patents
- re categories
- cre advantages
- re styles
- re office
- re industrial retail
- re multifamily
- cre debt
- cre equity leases
- mortgage underwriting
- commercial mortgages
- cre financing
- cre vehicles
- liquid cre
- re development
- cre valuation
- income approach
- public re vehicles
- reit returns
Browse all free CAIA Level I lessons or jump into free CAIA Level I practice questions.