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This week I began separation proceedings. Frankly, I want to play around a lot more, as I did as a hot young portfolio manager, spraying my attention far and wide across the world, keen to jump on anything that seemed even halfway attractive.
My faithful online broker simply doesn’t offer me the variety of funds or securities I need. Not only do I find this frustrating as an investor given my view on asset prices, but I have a column that needs to interest readers for years to come.
As I’ve written previously, my self-managed pension cannot buy individual bonds for example, nor futures and options on indices or single securities. The almost 5,000 exchange traded funds available to my mates in the US are also off-limits. Likewise, a whole host of markets and products globally.
Let’s take a real life example of what I would love to do but can’t within my current platform. I want to go short the gold price, which I think is ridiculously high. In other words, I want to own something that will rise in value if the price of the yellow metal declines.
I was a buyer in December 2023. Hopefully you bought your partner a gold watch or bracelet or two at auction, as I advised at the time. But $5,000 per ounce is 24-carat madness. Robert Armstrong explained why in his newsletter on Tuesday.
Many readers won’t agree and that’s fine. You’ve been right so far. But for those who do — and want to try to make some money out of their convictions — what options are available? Well, let me tell you: they are not only limited but downright dangerous.
That’s because for retail investors in the UK, Europe, the US and elsewhere there are few short-gold ETFs. On my platform there are three. A couple from WisdomTree and a third by a London-based provider of geared exchange traded products called Leverage Shares.
Before jumping in, however, readers need to know there is a catch with ETFs such as these. It’s not as easy as purchasing a negative three-times short fund and tripling your investment when the gold price falls.
Read the small print. Almost all of these products reset their prices daily. Indeed, they are specifically created for day traders — not for the likes of me who reckon gold will decline but haven’t the foggiest by how much and more importantly over what period.
Why does this matter? Because many people get excited when they see leverage on offer. But in order for ETFs to move in the opposite direction of an asset by a fixed multiple they use financial contracts, such as futures, swaps and short-term borrowing. Exact exposures require very short time periods.
Hence, the stated inverse return is for one day only. At the end of each trading day, the fund resets itself so it can target the same inverse percentage again the next day — in effect locking in any gains or losses.
This explains why these ETFs behave differently from most. If the underlying asset price moves smoothly in a downward direction, happy times. But add some ups and downs — like we saw on steroids on Thursday — and the ETF is constantly buying and selling exposure at different levels. This creates a drag on returns.
Over long periods this leads to what is known as volatility decay. Even if you are right about the general direction in prices, it is still possible to lose money as falls are not compensated by gains due to the daily rebalancing of the fund. The bigger the volatility, the stronger this effect becomes.
I learned this the hard way when, in a rush, I bought a three-times positively geared equity ETF towards the end of the financial crisis. I was bang on that the rally had begun, but the S&P 500 was leaping around like a joey on a trampoline. Months later, my fund value hadn’t moved.
That said, Deutsche Bank offers a short-gold exchange traded note (ticker: DGZ) that uses a reset mechanism to provide the inverse performance of gold over a full calendar month, rather than one trading day. It does this by tracking a single gold futures contract, which rolls monthly.
This should mirror the gold price (inversely) more closely than the daily funds. However, for long-run owners it will suffer the same drift versus the spot price as the negative target is reset each month.
Nor is DGZ cheap, with a total expense ratio of 75 basis points compared with the 10 or less I pay for bog-standard equity ETFs. It’s also extremely small (about $1.5mn in assets) given the prolonged bull market in gold prices and barely trades. This widens bid-offer spreads and makes getting in and out harder.
Still, if I could buy some I would — gold rushes throughout history have all ended the same way. But DGZ is listed in the US and isn’t offered by my online platform — hence my desire to move to a broker that gives me more reach.
There are cleverer ways of shorting gold if I had more bells and whistles at my disposal, though. I could buy put options on gold futures or even on gold ETFs. Perhaps there are forward contracts or contracts for difference I could enter into with my broker, although these would involve margin risk.
This brings me nicely to the topic of next week’s column. The assets and products you are allowed to trade are also a function of how regulators categorise you. Retail clients have far fewer toys to play with than professional ones.
Therefore, I really need to be the latter if I’m to take full advantage of changing brokers. Will I qualify to wear big boy pants? Would you? Needless to say, it’s complicated. New relationships always are.
The author is a former portfolio manager. Email: stuart.kirk@ft.com