This paper investigates differences in returns between the ETF price, Net Asset Value, and Benchmark Asset Baskets for five popular futures-backed ETFs. We decompose tracking difference to examine the relative size of tracking differences attributable to managers versus the arbitrage process. Tracking differences attributable to managers is found to be significantly smaller than that attributable to the arbitrage process. We then test for average Tracking Differences using the Mincer-Zarnowitz Equation. We find evidence of bias in returns for multiple ETFs and demonstrate the usefulness of the decomposition. Furthermore, we investigate the dynamics of Tracking Error using a GARCH methodology. We find support that the volatility of the ETF effects Tracking Error but find no evidence that rolling futures contracts influences Tracking Error. / Master of Science / This research focuses on futures-backed commodity ETFs. ETFs are exchange-traded instruments and are a convenient way for investors to gain commodity exposure without having to have access to a margin account, deal with futures contract expiration, or the large size of futures contracts. We investigate the ability of these instruments to achieve their investment goals: namely to perfectly replicate the exposure of a benchmark of futures contracts. We find that differences in the returns of the benchmark and ETF exist on average and that the bulk of these differences are attributable to the Creation and Redemption process rather than the ETF manager. Finally, we find that market volatility effects the volatility of these differences, but roll dates have no effect.

Generally, investment in commodity ETFs cannot produce similar performance as well as spot goods. Evidence shows that ¡§rolling¡¨ futures positions experience ¡§contango and the effects on contango will harm ETFs¡¨ value. This study shows that two ETFs, USO and UNG, underperform the spot substantially because of rolling in the crude oil and natural gas market, respectively. In this study we employ four energy sector futures market data from the Thomson Reuters to investigate the impact of rolling positions on the relation between commodity index funds and in contango/backwardation. This paper finds that increasing trading in commodity index fund made futures market more contango in the WTI crude oil, natural gas and heating oil markets. This study termed the strategy as the Backwardation Sensitive Trading (BST) . Moreover, this research designs an investment strategy based on variation of backwardation. That is to examine whether BST can make a successful arbitrage: increase holding when the market is more contango and decrease holding when the market is more backwardation. Our strategy performs better than USO and UNG, and those performances perform lower tracking error on oil and natural gas over 2006 to 2010.