Thursday marked the first day of trading for the UBS E-TRACS S&P 500 Gold Hedged ETN (SPGH), a unique product that offering investors exposure to large cap equities along with a hedge against a declining U.S. dollar. SPGH will track the S&P 500 Gold Hedged Index, a benchmark designed to measure the performance of an investment strategy long the S&P 500 and hedged against fluctuations of the dollar relative to gold prices. The index does this by hedging beginning-of-period S&P 500 Total Return Index values with COMEX futures contracts.
Similar to the strategies utilized by many other futures-based exchange-traded products, the gold futures won’t be held to maturity. Instead, the long futures positions roll to the next designated contract on the fifth-to-last business day to expiration. While monthly gold contracts are available, futures expiring in February, April, June, August, and December tend to be the most liquid. As such, the “roll” process occurs five times per year, although the positions are rebalanced monthly such that the notional value of the gold futures equals the value of the equity position.
Hedging Against Falling Greenback
|Index||3 Years||5 Years||10 Years|
|S&P 500 Gold Hedged Index||5.75%||13.94%||8.05%|
|S&P 500 Total Return Index||-7.02%||0.33%||-0.95%|
|Source: S&P Indices. All data as of October 31, 2009|
The Gold Hedged Index will outperform an unhedged S&P 500 when gold prices appreciate relative to the dollar and and underperform when gold depreciates. According to Standard & Poor’s, the S&P 500 Gold Hedged Index has outperformed the unhedged S&P 500 by 9% per year over the last ten years. As a hard currency that makes up a significant portion of many central bank reserve holdings, gold is a popular alternative to U.S. Treasuries when the dollar shows signs of weakness. While the inverse relationship between the U.S. dollar and first month gold futures isn’t always evident on a daily or weekly basis, a negative correlation clearly exists over the long-term.
U.S.-based investors have historically hedged the foreign currency risk of their investments, but the concept of hedging local currency risk is a relatively new idea. “An investor taking a broad view of wealth management may be considered to have currency risk even if his/her investments are limited to home currency assets,” notes an overview of the index prepared by S&P. “This is the case because if the home currency depreciates, then the investor’s purchasing power for real assets is diminished.”
In addition to using gold as a dollar hedge, many investors use the precious metal to protect against an uptick in inflation as well. But the relationship between gold prices and the Consumer Price Index is far weaker than the correlation with the greenback (and has in fact been a positive one occasionally).
SPGH is the second new ETN from UBS in the last three months. In October 2009, the issuer introduced the DJ-UBS Commodity Index Total Return ETN (DJCI), a broad based commodity ETP that competes with iPath’s DJP by offering a lower expense ratio (see Five Ways To Slash Your ETF Expenses).
Disclosure: No positions at time of writing.