Gold ETFs appeal as dollar dominance declines

Mar 13th, 2013 | By | Category: Commodities

While the US dollar is still the primary global currency, its long-term dominance is less certain, according to a report by the World Gold Council. With the dollar in apparent secular decline, central banks are reducing allocations to the currency while increasing purchases of traditional assets, such as gold.

Gold ETFs appeal as dollar dominance declines

Despite recent price falls, physical gold continues to appeal as the US dollar gradually loses its dominance.

Gold has been a major beneficiary of the realignment of central banks’ reserve allocations. Indeed, the official reserves of global central banks have grown from $2 trillion in 2000 to more than $12 trillion in 2012.

Gold has a long history as a reserve asset for central banks, and as such is considered a traditional one. Gold is statistically uncorrelated with other traditional reserves and new alternatives, making it one of the most important assets for diversifying out of the dollar and euro.

In line with this trend, central bank gold buying in the fourth quarter of 2012 marked the eighth consecutive quarter of net purchases by the official sector and the highest level since 1964.

Ashish Bhatia, Manager for Government Affairs at the World Gold Council said: “Building gold reserves in tandem with new alternatives is an optimal strategy as central banks remain under-allocated to gold and many attractive alternatives are either too small or, as is the case with the renminbi, not yet open to broader international participation.

He added: “Gold has a deep and liquid market with no credit risk, making it one of the most attractive assets for central banks to consider as they diversify away from the US dollar and euro. Gold’s tail-risk hedging properties add to its appeal as a particularly valuable component of a diversified reserve portfolio.”

Central banks typically purchase physical bullion (i.e. gold bars), but for mainstream investors this is impractical, primarily owing to the costs of storage and security. Physically backed exchange-traded products (ETPs) provide the solution. Physical ETPs, irrespective of whether they are technically structured as exchange-traded funds (ETFs) or exchange-traded certificates (ETCs), combine the advantages of physical ownership with the liquidity, transparency and ease of execution typical of an ETF. Investors looking to add gold to their portfolios are usually advised to do so via an ETP.

In the past month or so, gold ETPs have experienced notable outflows. However, physical demand from the official sector continues to be supportive and, with the price of gold having declined around 4% this year, the cost of insuring against inflation risks and economic and political uncertainty looks particularly attractive.

UK and European investors have a range of options to consider. Among the most popular and most liquid gold products are those offered by ETF Securities, Source, Deutsche Asset & Wealth Management, and iShares:

ETFS Physical Gold ETC (PHAU)
Backed by segregated, allocated physical  gold bullion held by HSBC, the custodian. All physical gold metal held with the custodian conforms to the London Bullion Market Association’s (LBMA) rules for Good Delivery. Listed on the London Stock Exchange, Deutsche Börse, Borsa Italiana and NYSE Euronext. TER 0.39%.

Source Physical Gold P-ETC (SGLD)
Physically backed by allocated gold bars held in JP Morgan Chase’s London vaults. Listed on the London Stock Exchange, Deutsche Börse and SIX Swiss Exchange. TER 0.29%.

db Physical Gold ETC (XGLD)
Backed by a direct investment in physical gold conforming to the London Bullion Market Association’s (LBMA) rules for Good Delivery stored in secure vaults in London (JP Morgan and Deutsche Bank). Listed on the London Stock Exchange and SIX Swiss Exchange. TER 0.29%.

iShares Physical Gold ETC (SGLN)
Backed by gold bullion held as allocated gold bars, valued daily at the London PM fix price. The gold is held securely in JP Morgan Chase’s London vaults. Listed on the London Stock Exchange. Total expense ratio (TER) 0.25%.

In the US, the leading product by a long margin is SSgA’s SPDR Gold Shares ETF (GLD), which is listed on the NYSE Arca and has assets of $63 billion. SPDR Gold Shares are also listed on the Singapore Stock Exchange, the Tokyo Stock Exchange and the Stock Exchange of Hong Kong.

For speculative trading purposes – as opposed to longer-term hedging objectives – leveraged gold ETFs have been gaining traction. Two of the most popular products in Europe are the double leveraged ETFS Daily Leveraged Gold (LBUL) listed on the London Stock Exchange, Deutsche Börse and Borsa Italiana, and the triple leveraged Boost Gold 3x Leverage Daily ETP (3LGO) listed on the London Stock Exchange. In the US, leveraged gold products include the double leveraged ProShares Ultra Gold ETF (UGL) and triple leveraged Direxion Daily Gold Miners Bull 3x Shares ETF (NUGT), both traded on the NYSE Arca.

Leveraged ETFs are a great tool for capitalising on short-term trends, but for longer-term core exposure, investors are usually better off buying an unleveraged physical product.

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