I guess we shouldn’t be surprised… but it looks like we now we have financial engineering making its way into the commodities space.  We came across EverBank’s MarketSafe Diversified Commodities CD today, which combines the promise of upside for commodities with the principal protection common with a bank CD (Certificate of Deposit).

A CD which can’t lose money, and which earns the cumulative return of the commodities tracked over 5 years (capped at 10% per year)…What could possibly go wrong? [heavy sarcasm]. I’m sure there were some nice mortgage backed security CDs like this back in 2007.

It’s brilliant on their end – as they can hedge the commodity exposure to get their cost of the money down close to zero (there is no annual interest on the CD), then turn around and loan that money through the bank at 5% or higher a year (locking in the difference). Although isn’t the Fed already providing banks capital at rates essentially zero?  And it doesn’t look terrible for the investor, whom risks zero (assuming Everbank doesn’t go bankrupt and the FDIC is solvent) with a maximum payout of 50% after five years if each commodity they track earns 10% or more every year for the next five years.

But before dumping your entire retirement account into this nicely packaged bit of financial engineering, consider the chart below which shows longer term cycles in commodities. Seems we’re currently sitting at the top of the quickest and highest rise in commodity prices in the past 200 years (bubble?). While the downside may seem like zero, there are still risks  if commodity prices fall (insolvency). And even a return of 0% over 5 years is not without problems in terms of real rates of returns and opportunity cost. If things do sell off, do you want your money locked up for five years, or liquid and ready for an opportunity.

Source: Hackett Financial Advisors

PS (for those in the industry) – how is it banks are allowed to show hypothetical performance without a hypo disclaimer??