The Commodity Rank Effect and Stationary Relative Prices

Summary

This study examines a low-minus-high rank effect in commodities: lower-priced, lower-ranked commodities have higher subsequent returns than higher-ranked ones. Using nonparametric econometric methods, it argues that this effect follows from a stationary distribution of relative asset prices, making it a structural implication of long-run price behavior rather than an unexplained anomaly.

The analysis uses daily commodity futures prices and reports that a portfolio of lower-ranked commodities earned higher annual returns than a portfolio of higher-ranked commodities across a two-century span. It also reports a higher Sharpe ratio than the U.S. stock market and no correlation with market risk. The description does not specify implementation details, trading costs, or how results vary across commodities and periods. Its conclusion that the effect may be difficult to arbitrage rests on the stated stationarity premise and should be understood within that assumption.

Key ideas

• The study finds higher returns among lower-ranked, lower-priced commodities than among higher-ranked ones.
• It explains the rank effect as a consequence of stationary relative asset prices.
• The empirical analysis uses daily commodity futures prices and nonparametric econometric methods.
• The reported portfolio results exceed the higher-ranked portfolio's returns and show no correlation with market risk.

Tags

# The Rank Effect for Commodities


# The Rank Effect for Commodities









We uncover a large and significant low-minus-high rank effect for commodities across two centuries. There is nothing anomalous about this anomaly, nor is it clear how it can be arbitraged away. Using nonparametric econometric methods, we demonstrate that such a rank effect is a necessary consequence of a stationary relative asset price distribution. We confirm this prediction using daily commodity futures prices and show that a portfolio consisting of lower-ranked, lower-priced commodities yields 23% higher annual returns than a portfolio consisting of higher-ranked, higher-priced commodities. These excess returns have a Sharpe ratio nearly twice as high as the U.S. stock market yet are uncorrelated with market risk. In contrast to the extensive literature on asset pricing factors and anomalies, our results are structural and rely on minimal and realistic assumptions for the long-run behavior of relative asset prices.

Shown in full with attribution under the source's licence. Licence: abstract CC0

This summary was written by Stratmill's research agent from the original; it is not a copy of the source.