A Sliver Of Silver With ETFs

Silver, the poor man’s gold, is a knight on a quest. Rarely in its history was the metal thought more investment-worthy by retail investors and rarely was it considered more seriously for portfolios, both big and small. The value of silver in the retail market has risen, even as investors have acquired it with the help of exchange-traded funds (ETFs). Indeed, a silent drip-drop became a splashy deluge ever since the regulator allowed silver ETFs to be rolled out.

For many investors, including a section that has newly arrived in the market, silver ETFs are now the preferred proxy. The tradable funds, which track the price of silver as closely as possible, have garnered significant interest. The trend, it is felt, will sustain and grow bigger with the passage of time–just as it did with gold. The yellow metal has been chased relentlessly by investors who have taken the gold ETF route in recent times, especially since the latest bout of inflation.

Inflation has actually led people to consider precious metals as an effective hedge. Silver, which is a lot more affordable than gold, is a new construct on the investor’s mental landscape.

Many are convinced that these should account for a part of their overall allocation. In the context of rising prices everywhere, the need for hedging has gained significance. ETFs based on silver prices are a convenient and inexpensive way of holding the metal and, thus, are preferred by those who stay away from the physical market.

Technically, ETFs mirror the underlying index and aim at providing total returns (before expenses) that closely correspond to its performance, subject to tracking error.

The lower the tracking error, the better is the performance. The simplicity of this principle works in favour of the exchange-traded concept. Ease of investing, courtesy the services offered by a securities broker is yet another factor that pushes it forward. Silver, and certainly earlier, gold, have both benefited from the popularity of the idea. The fact that these are relatively new in the market now gives silver ETFs an added share of the limelight.

Let me do a bit of crystal ball gazing here. Silver ETFs, along with their gold counterparts, will garner higher allocations in the days to come. In the midst of the currently raging active versus passive debate, asset management companies (AMCs) will roll out more exchange-traded products–ETFs and fund of funds (FoFs).

Several players have entered the fray in recent quarters. There is no point in quoting the latest month-end figures (assets under management and the like) supplied by the Association of Mutual Funds in India (Amfi), but they do underscore the emerging trend.

A Silvern Future?

How is the silver market expected to pan out? There are three relevant points to this.

Inflationary trends are likely to remain firm in the foreseeable future, while demand for silver by specific user industries will most certainly rise. The metal will see higher price points.

The increase in valuation will actually tempt new investors to enter the silver market. A section of those who already hold it will acquire more in the hope that prices will escalate further.

ETFs will be the most obvious choice for a large number of newcomers, many of whom are anyway being driven by the idea that investing in passive funds creates room for a superior strategy (compared to active).

Let me take up each point and expand a bit. The demand for the metal is being fuelled by several key user sectors. This is only expected to scale up from the current level; price lines will firm up as a consequence. Industrial consumption patterns will sustain too, at least for the time being. The trend will be beneficial for the entire sector, especially producers.

This implies that the market will entice investors, and fresh money will flow into it. This, typically, happens in a rising market, which attracts new investments at every turn. Investors come in with the hope of gaining from what they perceive as a promising uptrend. Depending on circumstances, the asset class itself sees considerable traction.

At the moment, ETFs are a compelling proposition. An inclination towards passive investments is quite palpable, and while active management is not being relegated to the sidelines, demand for passive products is certainly rising. A new school of thought—adherents of the “Active and Passive” strategy, as opposed to the “Active versus Passive” debate—now exists in India.

On other fronts too (such as equities), index-based investing is much more than a mere fad. As younger Indians take to indices in larger numbers, they join a worldwide trend in favour of index funds and ETFs. The situation will only prompt product manufacturers, such as AMCs, to promote new funds. Opportunities will be explored, and silver will not be any exception.

A Shining Strategy

Given these circumstances, should there be a functional strategy for investors to pursue? Yes, and this is how it should look in the coming quarters.

Step-up allocation, creating scope for silver to enter the portfolio. Perhaps a small allocation, a symbolic and sustainable 5 per cent will be helpful for starters, with the option to increase it if the circumstances are right.

There is naturally no hard and fast rule for allocation. It is a function of one’s risk profile, and should remain so in the case of silver as well. Those who intend to put in bulk investments should perhaps consider breaking their deals into a few smaller pieces. The idea is to approach the market in an unevenly staggered manner (that is, at a medley of price points). Investors may also actively consider systematic investment plans (SIPs). The law of averages will then work in their favour, and the final price of acquisition will turn quite attractive for them.

The Last Word

The basket for silver will expand as new exchange traded funds enter the investment space. So, there will be a greater number of choices. Silver will help in portfolio diversification. This realisation has already dawned on a fair section of the market.

Nevertheless, people should understand that their lunches are not free—they will never be in the investments space—and there will be risks to consider all along the way.

An ETF packs its own set of challenges. Its returns are subject to tracking errors and the fund manager does not outperform the chosen index. Further, the performance can never be guaranteed. Yet, all points considered, silver ETFs have arrived in the Indian market and investors should brace for their emphatic presence.

The author is Director, Wishlist Capital