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Spotting A Gold Digger

The two gold funds available to Indian investors seem similar, but both very different mandates

When investors select an equity fund, they have portfolios to consider as well as analysis, if the latter is available. However, if they decide to invest in one of the two gold funds available, the decision is made almost solely on the basis of which one throws up a better marketing spiel. Or, more likely, the distributor's preference. A bad starting point indeed!

What investors must realize is that the two funds are far from identical, though they share the same investment universe. So the logic of either one not mattering (as long as its gold stocks) does not hold ground.

When you invest in either DSP BlackRock World Gold Fund or AIG World Gold Fund, in neither case will the fund hold physical gold or any metal for that matter. The investment will take place in stocks of companies in the business of extracting, processing and marketing of gold. Investment may also take place in companies engaged in the business of mining other metals or precious stones. Geographically, the investment universe is not limited - investments will take place in companies across the globe. Another similarity is that both funds won't actively buy the stocks themselves but will invest in other international funds sharing an identical mandate. DSP BlackRock World Gold Fund will buy into the units of BlackRock Global Funds - World Gold Fund, while AIG World Gold will buy the units of Falcon Gold Equity Fund.

In that sense, the funds are similar.

If one takes a good look at their portfolios, the differences are stark. Though the top 10 holdings of both funds account for pretty much the same allocation, there are just five identical stocks found amongst them, that too each with a different allocation. For instance, Newcrest Mining has a 9.4 per cent allocation in one portfolio, but just 3.90 in the other. Ditto for Agnico-Eagle Mines with a 6.67 per cent allocation in one and 3.6 per cent in the other.

In terms of stock allocation, both funds score identical marks for being fairly well diversified. But DSP BlackRock World Gold Fund takes the diversification to other levels too. Geographically, the portfolio is much more evenly spread across countries and the same principle is extended to industry exposure. AIG Gold Fund has the bulk of its portfolio in gold and silver in just two countries (80%). But while it can be accused of being more risky, it has rewarded investors for taking that risk. In 2009, the fund delivered 51 per cent, pretty much ahead of DSPBR World Gold Fund with a return of 41 per cent. In 2010, it did once again take the lead with a return of 32.74 per cent, though DSPBR World Gold Fund was not far behind with a return of 29 per cent. On the other hand, neither has AIG World Gold displayed a more volatile performance, comparatively speaking.

The performance of gold mining shares has a high correlation to the movement of the price of gold. This is because the earnings of the miners usually rise more than the gold price. A well-known rule of thumb says that in “normal” times, gold mining shares should rise two to three times as much as the physical gold price. But this correlation did not work in 2008 due to the situation in the global financial markets. Gold mining stocks could not escape the selling panic in the general equity and commodity space. Yet, DSPBR World Gold Fund fell much less (-19.37%) than most funds. Since the other fund was launched in India that year, we do not have the annual returns of 2008 to go by.

If you are just plain happy betting on the price of gold, then consider a gold exchange traded fund (Gold ETF). In its best year, the performance will be much lower than that delivered by a basket of stocks. For instance, in its best year, Gold ETFs delivered just 54.92 per cent, while the corresponding figures for the world gold funds were above 145 per cent! On the flip side, the worst year for Gold ETFs saw a return of 2.20 per cent, the corresponding figure for DSPBR World Gold Fund was -54.78 per cent. The volatility is much higher in such a fund. But even if you invest in an ETF, do remember that gold is not a low volatile asset. In its best month, Gold ETFs delivered 27.62 per cent and in its worst, -20.96 per cent.

Finally, when making a selection between the two funds, there's one more aspect that can be considered; the backing of the fund house, though both boast of professionals at the helm. BlackRock is the world's largest asset manager with $3.56 trillion of assets under management (December 31, 2010). Falcon Gold Equity Fund is from Falcon Private Bank based in Switzerland. AIG Private Bank (AIG PB) was acquired by Aabar Investments in April 2009 post which AIG PB has been conducting business under the name Falcon Private Bank Limited. So when deciding on one against the other, don't lean solely on the distributor's slant.