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Article / 07 July 2016 at 12:33 GMT

ETF Portfolio Update: In gold we trust

CIO / Saxo Private Bank
  • Unsettled market and Brexit drove portfolio changes
  • Gold looking good in a negative interest rate world
  • Returns bounce back in second quarter of 2016

 Gold miners are useful as a proxy for physical gold investment. Pic: iStock

By Teis Knuthsen

In this comment, I update our ETF portfolios with returns up until the end of the second quarter. 

The four ETF portfolios are constructed as global, multi-asset portfolios with the European investor in mind. In general, we aim to provide a transparent, familiar and robust asset allocation universe, suitable for medium-term to long-term investors. The ETFs are UCITS compliant and approved for distribution in most European countries. You can read more about the portfolios here.

Changes to portfolio construction 

We made a number of changes to the portfolios in the beginning of the second quarter, driven not only by the very unsettled markets in Q1 and the threat of the British EU referendum, but also by the dramatic decline in government bond yields. Further, we decided to shift a substantial part of the equity allocation towards so-called risk factors, using smart beta ETFs. 

We have moved entirely out of European credit bonds, both investment grade and high yield, as I do not consider current yields as offering an interesting investment proposal. Instead, we have included global high yield, to benefit from the significant spread widening in the US at the turn of the year. We have also shifted our dollar-based emerging market exposure to local currency EMD to benefit not only from a higher level of interest rates, but also the chance of currency upside after several years of decline. 

On the equity side, we have benefitted from our exposure to low-beta, or minimum volatility, stocks for several years. We have taken one step further here, and chosen to switch our emerging markets exposure to a minimum volatility ETF. At the same time, we have reduced our longstanding EM underweighting and moved towards a more neutral stance. 

Further, we have added one more equity risk factor to the portfolio, the iShares MSCI World Momentum Factor. Financial markets often exhibit signs of momentum, and we try to exploit that here. Momentum will tend to have a higher volatility than the overal market, but also a higher return. 

Finally, we have reduced exposure to European property yields, but included gold exposure in the form of the iShares Gold Producers ETF. In these portfolios, we only invest in UCITS-approved funds, and hence cannot buy physical gold. Gold miners are a substitute that will tend to move in the same direction as gold. 

We have added gold, as it may serve as an alternative currency in a world of negative interest rates, where confidence in central banks and the paper-based money system (fiat money) is in decline. It is part of the rationale that gold prices have been falling for several years, thus offering a reasonable entry level. 

The current portfolio structure can be found here: 

ETF portfolio allocation
Returns bounce back in Q2

Returns during the past quarter picked up substantially after the downbeat first quarter. Returns ranged from 5.2% for the Conservative portfolio to 6.8% for the Aggressive portfolio, lifting year-to-date returns to positive again. 

All asset classes contributed to returns in Q2, with a further drop in government bond yields, a rise in both high-yield and EMD bonds, as well as positive returns from equities. 

Our exposure to low volatility equities once again helped performance along. The low volatility ETF rose by 6.5%, or twice the return from global equities. The exposure to the momentum factor also contributed positively. 

However, the largest contribution by far came from gold, which rose by 25% since we included it in the portfolios. 

Portfolio returns 2016 year-to-date
Portfolio returns

Source: Saxo Bank, Bloomberg

Markets are nervous heading into the third quarter. My overall view is to expect markets to rise further in a cocktail of higher economic growth, a rise in forward earnings and a continued monetary expansion. However, ongoing financial stress in the Eurozone and the political ramifications of the Brexit vote may cause considerable uncertainty in the months ahead. 

– Edited by D. Deacon


Teis Knuthsen is CIO of Saxo Private Bank


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