FYI | Nov 20 2008
By Greg Peel
There is little doubt that were it not for gold exchange traded funds listed on exchanges in the US the price of gold would not have reached such dizzy heights as it has. The same could be said of silver, which arguably enjoyed a rebirth as a precious metal due solely to the listing of its first ETFs few years ago. The silver price suddenly soared through ten dollars on its way to twenty immediately after listing.
This naturally encourages chicken-and-egg arguments: Did a rising interest in precious metal investment mean success for ETF products or did ETF products mean a rising interest in precious metals? Both are true. The US dollar downtrend of recent years, along with the more recent credit crisis, has brought precious metal investment back into the spotlight as a means of wealth preservation and potential profit from the undermining of the developed world’s fiat currency system. The world’s reserve currency is, after all, backed only by the US economy and the spending policies of a US government trying desperately to hang on to global hegemony.
In the latter case, ETF products provided investors with a new way to invest in precious metals which was safer and better leveraged (to prices) than ever before. Previously, precious metal investors had basically three choices: (1) invest in shares of mining companies, and ride the rollercoaster of production results, delays, cost overruns, exploration disappointment, and restrictive hedging policies; (2) buy actual coins or bars, and then worry about where to safely store them; or (3) buy futures contracts or similar “paper” promises which are subject to price volatility and margin calls, and at times of true financial meltdown are likely to be worthless given counterparty risk.
The availability of ETFs exacerbated speculative volatility.
ETFs are products listed on an exchange which allow the investor to buy a charge over an actual amount of gold actually held on trust in a vault. One might say the investor could take a trip to the vault and be shown his particular bars if needs be. Not only do ETFs suit the retail investor, mutual funds were also able to invest directly in metals for the first time once ETFs were introduced. They were never allowed to invest in futures.
Funnily enough, the world’s first commodity ETF was listed on the ASX in 2003 – the GOLD contract. Similar products were later listed in the US after the gold price awoke from its slumber, and the rest is history. Through all the financial turmoil of recent months – through the deleveraging, margin calling and a gold price falling from US$1000/oz to US$700/oz – the volume of gold held for ETFs has actually increased to record levels.
Not that fluctuations haven’t occurred along the way. If you build it they will come, and come they did, turning precious metals into a speculative plaything as much as a hedge against everything. There will be a few mums and dads out there in the US in particular well burnt by their first forays into ETFs, but at the same time there are mutual funds who have now assigned a proportion of their portfolios to a gold holding and left it there. Such direct gold investment has made gold prices more generally volatile, although we still have not seen anything like the volatility in the gold price experienced in 1980, albeit briefly.
The GOLD contract was the brainchild of the World Gold Council, and creator one Graham Tuckwell. Tuckwell has since moved on the found ETF Securities, the world’s leading issuer of commodity exchange traded products. And the circle is now complete, as ETF Securities has just purchased the GOLD contract.
This meakes no difference to buyers or holders of GOLD, but along with the purchase ETF Securities will next month list ETFs (known as ETCs – exchange traded commodities) on the ASX for silver, platinum and palladium, and for a precious metal “basket”. The new products will follow the same principles.
FNArena was drawn to this announcement not just as a piece of news, but because we often field enquiries from readers wishing to know the best way to invest in these other precious metals in Australia. Our answer to date has been that with the exception of buying physical metal the only answer is stocks, and there’s not a lot of pure-play choice. (One can nevertheless overcome physical storage problems by accessing the Perth Mint’s depository facilities for gold and silver (allocated) and platinum (unallocated)). There is also a possibility of seeking exposure through CFDs (Contracts For Difference).
One might be forgiven for arguing that ETF Securities is shutting the gate after the horse – that speculative investment in anything commodity-like is now game over – but recall the aforementioned record US investment and also that the world is currently suffering a chronic shortage of retail-level precious metal coins and bars, so intense is the demand.