Commodities: The New Tech Stocks?

With the prices of gold, corn, and other commodities on the rise, marketers are luring new investors. But the risks are high

by Moira Herbst

The marketing pitches are increasingly common—in print, on television, and especially on the Internet. There's "Oil Speculators Trade Currency. You Can Too!" and "Online Commodity Traders: Free Tools, Better Futures Trading." Another proclaims: "Trade Futures for only $0.99!"

Commodities seem to have become the new tech stocks. The prices for oil, gold, corn, and other commodities have surged over the past year, resulting in outsize returns for a few savvy investors and large financial institutions. Now, the call is being sounded for individual investors to jump in the pool. Splashy ads trumpet everything from budget brokerage fees for commodities trading to foolproof trading systems. In December, the latest edition of Commodities for Dummies was published.

But experts warn that commodities trading is a dangerous game for the average individual investor, with high stakes and treacherous twists in price movements. "Commodities are a really great way to lose money," says David Wyss, chief economist for Standard & Poor's, which like BusinessWeek, is a unit of the McGraw-Hill Cos. (MHP). "You're better off playing poker in Vegas."

Stepping Up Enforcement

The Commodity Futures Trading Commission, which regulates the industry, is also warning investors to be careful. It has issued a number of advisories cautioning investors about the dangers of fraud and get-rich-quick schemes. This month, the commission put out a revised version of its advisory, "Beware of Web Sites Selling Commodity Trading Systems that Guarantee High Profits with Minimal Risks," which warns that futures contracts are risky and that what sounds too good to be true likely is. "Commodities are publicized more as an alternative now," says Paul Hayeck, associate director of the CFTC's enforcement division, "and there are people ready to take advantage of people who aren't educated about these markets. They'll misrepresent the whole thing to anyone willing to listen."

The CFTC Web site lists hundreds of enforcement actions against alleged fraudsters in the commodities and foreign exchange markets. In one recent case, a company called Castle Enterprises allegedly set up Web sites such as Never-Lose.com and WallStreetWar.com. The man the CFTC says was behind the sites, Gilbert Philip Castillo Jr., convinced potential clients that he was a successful commodities trader and adviser, able to deliver extraordinary returns on modest sums of cash, a government complaint alleges.

From 1999 to 2005, hopeful investors paid Castillo to advise them how to play the commodities game and to execute trades in futures and options. But Castillo had never registered with the CFTC as a Commodity Trading Advisor (CTA), as the commission's rules require. Earlier this month, the CFTC announced that a California court ordered Castillo and Castle Enterprises to return more than $800,000 to 125 investors whose hopes of big returns had left them with nothing.

Castillo failed to appear in court on Feb. 5 for a hearing on the case. His attorney says that his client could not be reached immediately for comment.

Leverage Can Be Lethal

Wyss says that the current push to persuade investors to put their money into commodities is similar to the marketing behind day-trading in the 1990s, when many small investors tried to trade stocks daily and ended up losing large sums of money. But he says the current trend could be even worse.

Trading commodities can be riskier than trading stocks for at least two reasons. First, there's more leverage. An investor who buys shares in AT&T (T) or IBM (IBM) usually pays 100% of the purchase price, and puts up 50% as a downpayment even if they're borrowing money from their brokerage firm. With commodities, investors can often put down as little as 5% of the value of a contract for oil or corn.