iShares COMEX Gold Trust (IAU)

[jellogan]

State Street Can Afford Gold ETF Fee War For a While Yet
By Timothy Wood
Dec 17 2010 9:37AM

ST. LOUIS -- Much has been made of this week’s surge of buying in BlackRock’s iShares Gold Trust [IAU]. Some of it has erroneously been reported as a daily trading volume record, but rather it was a leap in new gold ounces added to the IAU on relatively small volumes.

Bloomberg news reports that around “28 million shares changed hands yesterday in a single block transaction... The trade, which occurred at 1:41 p.m. in New York at $13.6762 a share, was worth about $383 million.”

As of Tuesday this week, iShares reported the addition of 27 million new shares along with 264 thousand ounces taking total net asset value in the Trust to $5.2 billion.

That has drawn a lot of attention to BlackRock as State Street’s SPDR Gold Shares [GLD] new competitive nightmare, and everyone is pinning it on the former’s lower fees that kicked in this past June. IAU has an expense ratio of a quarter point compared with GLD’s two fifths having initially been matched.

Consequently, investors are interpreting the fee cut as the fuel that is driving a significant increase in IAU’s market value. That was underscored by data from EPFR Global showing that between July 1 and October 31, IAU had $685 million in net inflows and GLD had $961 million in outflows.

That does indicate there might be a swap going on though it’s hard too see how the expenses incurred could be reasonably offset by just a 15 basis point difference in expense ratios. It’s more likely that new gold investment flows are going to IAU, and it is evident that GLD’s growth relative to gold prices has stalled. That said, it remains extraordinary compared with gold equities which are wallowing.

There was a resurgence in gold ETF buying in April this year as European sovereign default risks ballooned.

Since April 22 this year IAU has increased its total NAV by $2.33 billion, an 82% increase. Comparably, GLD has “only” improved 39%, but by a whopping $16.1 billion over the same period so the scale makes the comparison rather poor. Gold prices have increased 23% in that time.



However, the differences since 1 July are starker. IAU has grown by $1.9 billion, or 56%, since then compared with $5.2 billion, or just 10%, for GLD. In the same period the gold price has increased by $161 per ounce, or 13%. So GLD is clearly underperforming compared with IAU, and it is well illustrated in Chart 1.

That has raised speculation that GLD will imminently cut its expense ratio in order to stop the leakage to IAU. However, investors should not forget recent history.

IAU became increasingly less competitive with GLD in early 2008, and it was decimated by March 2009. At that point IAU had just 6% of GLD’s total gold on hand. It had more commonly traded at around 10% of GLD’s gold inventory. (See Chart 2)

The declines was clearly a function of the credit crisis having its epicenter in the US, where distressed investors were liquidating assets to stay afloat. When exotic assets had lost their ability to trade, let alone their value, IAU was obviously going to suffer.



IAU should be seen as recovering rather than outperforming at this point. Once IAU’s gold passes 12.5% of GLD’s total it will be time to place bets on State Street slashing fees. Even then, GLD is so much bigger than IAU that it will probably take the risk for a while longer to preserve fee income.

Likewise, GLD has superior liquidity which attracts a substantial premium in markets that remain volatile and risk averse.

So we don’t see much chance of State Street being drawn into a fee war any time soon though things could change quickly if some of the large funds invested in GLD decide to make a point of it.

http://www.kitco.com/ind/TimWood/dec172010.html