Avoid lure of global gold funds

It touched its all time high of $1,911 per troy ounce and has reached Rs 28,000 for 10 grams in Indian markets.

The gold rally has been continuing and the second quarter of this year marks the tenth consecutive quarter for gold prices to have increased steadily. It touched its all time high of $1,911 per troy ounce and has reached Rs 28,000 for 10 grams in Indian markets.

In 2010,when all the gold exchange traded funds (ETFs) were on top of the performance charts beating all other asset classes,there was a sustained campaign that presented global gold equity fund-of-funds superior to physical gold in terms of returns potential. The assets under management (AUMs) of the two global gold fund-of-funds swelled to new heights. The additional risks in these funds rarely found mention.

Global gold fund-of-funds are feeder funds to their global gold funds which in turn invest in equity of gold mining/processing companies. These stocks are extremely risky as they are highly leveraged to gold prices. Both the basic raw material and the output for these companies is gold and thus even a small change in gold prices affect these stocks to a great extent. The scene looks rosy when the gold prices are rising but turns ugly when the same corrects. Ditto seems to be the case with the two gold fund-of-funds as gold has rallied too far and too fast on the back of excess liquidity and speculative buying and is expected to correct to some extent.

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There are other risks associated with the fund and which may be applicable to most global equity funds geopolitical and economic risk. The US and eurozone face enormous problems. They have for quite some time kept the markets on its toes. The US downgrade has seen a wave of sell-offs from all risky assets including emerging markets like India. The global gold fund-of-funds had heavy exposure to both US and

European markets. With these markets in free-fall,these funds could not remain immune. Gold mining stocks did not give returns even near what gold had posted.

If you are buying global gold fund-of-funds thinking that it would perform better than gold,think again. You are probably being lured towards high returns and are missing the rationale for which gold should ideally be bought. u

Author is Associate Fund Manager,Bonanza Portfolio