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Silver ETFs: Adding a silver lining to your portfolio

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As the correlation of silver with other asset classes is low and the metal has provided protection in times of crisis, individuals are increasingly looking at investing in silver exchange traded funds (ETFs). Fund houses are launching a spate of silver ETFs because the metal has a stronger relationship to economic growth, being an essential component in many industries.

Kotak Mahindra Asset Management Company has launched an open-ended silver exchange traded funds that will provide investors an opportunity to hedge against the ongoing economic uncertainties. Subscription for the new fund offer (NFO) will close on December 5. Last month, HDFC Asset Management Company had launched HDFC Silver ETF Fund of Fund (FoF).

Experts say allocating a small portion of one’s portfolio to precious metals like silver not only provides diversification benefits but also a potential hedge against economic downturns. In fact, after the pandemic, demand for silver has outstripped supply due to uptick in industrial activity and a surge in retail investor appetite for the metal. Moreover, investing in silver ETFs is easier and safer than buying it in its physical form, providing easy liquidity and the flexibility to invest in smaller quantities.

Varun Fatehpuria, founder & CEO, Daulat, a new-age, wealth-tech firm, says while gold has a negative correlation with equities and is often seen as a safe haven during times of economic distress, silver due to its industrial use is positively , albeit lowly, correlated with equities. “A boost in the industrial economy and related companies often provides a strong tailwind to silver,” he says.

How they work
For fund houses, the investment objective of silver ETFs is to generate returns that are in line with the performance of physical silver in domestic prices, subject to the tracking error. The regular market only permits physical silver of 30 kg bars with fineness of 999 parts per thousand (or 99.9% purity) conforming to London Bullion Market Association Good Delivery Standards.

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The silver ETFs are listed and traded in stock exchanges and the NAV is disclosed daily. During the NFO period, one can invest at par value and after that one can buy or sell units in the stock exchange at market prices. An individual can invest in a silver ETF through demat and trading accounts. Those without a demat account can invest in silver FoF. At present, the maximum total expense ratio (TER) applicable for ETFs is 1% of the daily net assets. The recurring expenses within TER among other expenses will include the expenses incurred towards storage and handling of silver.

What to consider before investing
Given its use in industry, investors must track the stage of the business cycle, demand-supply dynamics, substitution possibilities, etc., when judging the attractiveness of investing in silver at any point in time. For example, Ghazal Jain, fund manager, Quantum AMC, says investors are banking on the use of silver in solar panels to be a major demand driver, but given the high cost of silver, there is scope for the metal to get substituted by cheaper alternatives so as to make solar energy more affordable. “As the overall market size of silver is smaller than gold, the likelihood of large price movements caused by buying or selling by a few market participants is higher,” he says.

Also, investors must note that silver prices thus tend to be more volatile than gold prices. Fatehpuria says investors should be aware that silver tends to be a lot more volatile than gold due to the former’s applicability in a wide variety of industries and thus can fluctuate depending on the business cycle. “And just like with all other ETFs, investors should consider the tracking error and liquidity of these instruments before making a decision,” he says.

Silver returns trail gold
Experts say the aggressive monetary tightening by global central banks to bring down inflation is expected to take a toll on economic growth in the near to medium term, which could negatively impact demand for industrial commodities like silver, hurting prices. Even risk assets like equities could see some pain. “In the long term, gold and silver will get a push when the monetary policy begins to ease to support growth. However, historically silver returns have trailed gold returns except for some episodes where silver prices were led more by speculation than fundamentals, only to come down later,” says Jain.

The investment objective of silver ETF is to generate returns that are in line with the performance of physical silver in domestic prices
Silver tends to be a lot more volatile than gold due to its applicability in many industries and thus can fluctuate depending on the business cycle
Consider the tracking error and liquidity of these instruments before making a decision
Historically, silver returns have trailed gold returns


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