All posts by Aditya

Bullion, Commodities, Finance, Investment

Relative Value arbitrage – Gold, Silver and Platinum

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Bullion space has been really volatile in the past few days. Gold has given better returns than silver and Platinum in the upmove during the past 5 years.
Gold lost around 10% from the highs of last year but silver and Platinum have both come down 30% and 50% approximately from their highs of 2008.

Historically Gold, Silver and Platinum have maintained a value ration amongst them and this seems to be out of sync at the moment.

Doing some number crunching on the historical data here is a trade strategy that exploits the relative mispricing and is geared to give near positive returns when tracing the past data.

The bullion trio is priced at:
Gold – US$ 948/oz,

Silver – US$13.45/oz and

Platinum – US$1182/oz at the time of writting.

I am recommending creating a strategy where one is 60% short on Gold and 20% long on both silver and platinum by value.

The strategy should yield an absolute return of around 25% when the bullion trio traces back to the historical ratio’s and the mispricing in relative value is resolved. Gold: Silver – 60 and Platinum: Gold – 1.75

We shall trace the strategies pay out on a weekly basis. So as of date we start with
Short Gold – worth 600US$
Long Silver and Platinum – worth 200US$ each

The ratio now as we create the trade is 70.48 for Gold Silver and 1.24 for Platinum Gold

Watch out in a week to see how the strategy is doing.

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Week 1 – 29th July 2009:

Gold – US$931: Silver – US$13.51: Platinum – US$1166

Gain – 10.75$ on Gold, Loss of 2.7$ on Platinum and 0.44$ on Silver

percentage gain – 0.76%

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Week 2 – 5th August 2009

 Gold – US$965: Silver – US$14.64: Platinum – US$ 1267

Gain – $16.25 on Silver and $14.38 on Platinum; Loss – 10.75 on Gold

Percentage gain – 1.98%

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Week 3 – 13th August 2009

Gold – $949.50; Silver – $14.56; Platinum – $1254

Gain – $15.06 on Silver; $12.18 on Platinum; Loss – 0.94 on Gold

Percentage Gain – 2.63%

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Week 5 – 25th Aug 2009

Gold : 944.50; Silver: 14.10; Platinum: 1237

Gain on Gold – $2.215; gain on Silver $8.27; gain on Platinum – $9.30

Percentage Gain – 1.98%

Changing strategy to 50% short gold and 25% long each Silver and Platinum. Both strategies will be tracked.

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Week 6 – 3rd September 2009

Gold – 977; Silver – 15.37; Platinum – 1229

Gain on Silver – 27.03; platinum – 7.65; Loss on Gold – 15.18

Gain on Strategy – 1.98%

(With ratio’s of Short Gold 50% and Long Silver and Platinum 25% each the strategy would yield 3.11%)

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Week 7 – 8th September 2009

Gold – 1000.70; Silver 16.54 and Platinum – 1285

Loss on Gold – 33.35; gain on Silver – 44.31 and Platinum – 17.42

Gain on strategy – 2.83%

(With ratio’s of Short Gold 50% and Long Silver and Platinum 25% each the strategy would yield 4.94%)

 ————————————————————————————————————————————————

Week 8 – 15th Sep 2009

Gold – $1007.40; Silver – $17.04; Platinum – $1328

Loss on Gold – $31.33; Gain on Silver – $64.62; Platinum – $30.87

gain on Strategy – 6.42%

(strategy of 60% short gold and 20% each long silver and platinum would yield 3.88%)

—————————————————————————————-

After 9 months – 23 April 2010

Gold – $1140; Silver – $17.96; Platinum – $1731

Loss on Gold – $101.26; Gain on Silver – $81.61; Platinum – $116.11

gain on Strategy – 9.65%

Forex, SGD INR

SGD/INR whats happening with it?

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Its been time since the last post on SGD/INR and a lot has happened in the currency market. Though surprisingly the SGD/INR rate has moved in the narrow range of 32.5 – 33.50.
The past few months saw SGD strenthening from 1.55 to 1.44 against the US dollar. Rupee on the other hand moved from 52.5 to 48.00 against the greenback.
The interest rates front has turned interesting as well – the central banks are not so focused on inflation and growth seems to have caught their attention once again. The rates have softened across geographies. The Interest rate in singapore for a long term deposit will average around 1.25% and India a long term deposit brings in 7% on an average (though the long term National Savings certificates still get 8% but the lock in is for 5 years)
In the light of the new data converting singapore dollars to Indian Rupees still makes sense.

Even if the Singapore dollar stays at 32.75 agaist the Rupee the gain turns out to the 5.6% and a chance of loss is only if the Rupee weakens beyond 34.60 against the SGD.

As earlier thats a unlikely scenario. The probability of Rupee strenthening against the USD to the range of 44 – 46 is extremely likely and that would see SGD INR heading down to Rs.30 levels. When will that happen is really difficult to say, but for the time being it still makes a lot of sense to convert SGD to INR (those of you who followed the post in the past must already be sitting on annualilsed gains of 5.6%).

If you want to go a step further then borrow in Singapore dollars – a lot of banks are running offers for 6 month loans for a effective rate of 3% p.a – and convert to INR.

Even with the interest lay out you stand to make near riskless gains of upto 3% or more!!

Bullion, Commodities

Gold – Next bubble in making or Next Bubble to Burst?

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Practically every day we hear one or the other analyst doling out advice to invest in gold and how at least 10% (though this recommendation can be as high 20%) of your portfolio should comprise of gold or gold stocks.

The Gold price has fluctuated wildly in the past year. After hitting a high of US$1032/oz in March 2008, it fell to US$690 in November 2008 and is back up again at around US$900/oz.

 

The US Dollar co-relation

First the rally was attributed to weakness in US dollar. The Gold prices moved in inverse tandem with the weakening dollar beginning 2003. US Dollar Index fell from 101.91 in Jan 2003 to 71.34 in Apr 2008 – appx. a 30% weakness. The USD Index measures the performance of the US Dollar against a basket of currencies: EUR, Japanese Yen (JPY), Pound Sterling (GBP), Canadian Dollar (CAD), Swiss Frank (CHF) and Swedish Krona (SEK). The most noted move was the weakening of USD from 1.25 to 1.63 against the Euro during the same time frame – a 30% appreciation of Euro against the USD.

 

Gold in the mean time marched from US$450/oz to US$1030/oz translating in gains of around 130%

 

Oil Co-relation

Some traders price Gold between 7.5 to 15 ratio to the Crude Oil. So when Oil touched its peak of US$147 a barrel the gold prices were being predicted to touch $2200 (147×15 = 2205) on an optimistic scale, and the price of US$1100 (147x 7.5 = 1102) looked reasonable. The gold prices did follow the falling crude for some time but the pair seems to have lost co-relation now. With current crude oil prices around US$45/bbl, using the Crude oil to Gold ratio the optimistic Gold price comes at US$675/Oz and pessimistic price comes to US$338/Oz.

 

The Inflation hedge

Gold has been, more often than not, regarded as a good hedge against inflation. With the skyrocketing prices of commodities during first half of 2008 the inflation across the world had started to move toward the double digit territory. Countries like India and China had inflation of upwards of 12%. With the rising inflation the investment in gold as a hedge was a prime theme then. The inflation has now fallen back to single digit levels in most of the economies and there seems to be real threat of deflation with falling consumption.

 

Risk Aversion for uncertain times

After having exhausted all the above theories the latest story is that of safe investment in uncertain times. With falling stock prices, lowering treasury yields and the sovereign default risk inching upwards investing in gold seems to be the buzz word again. The reason this time is that Gold is a real tangible asset that has been considered valuable for centuries. The supply of gold is limited thus it makes a perfect investment.

 

The Contrarian View

Having considered all the reasons of why to invest in gold let us now look at the other side of the coin.

 

Applying the Dollar co-relation theory the gold price should be headed downwards. The USD index is up at 87 as on date of writing. Using linear equation we can arrive at a fair value of gold in relation to the USD index which is appx. US$775.

 

Using the Oil co-relation the gold should be trading anywhere between US$338 to US$675 an ounce and with inflation falling sharply people should be selling gold.

 

Now coming to the risk aversion theory let us answer a simple question – is gold not really a commodity? It has a derived value. Unless the world moves back to the days when people would use gold as currency to buy and sell goods, investing in gold is as good as exposing your money towards the price fluctuations in gold price (unless someone can guarantee that gold will never fall down).

 

On the demand supply front – the demand has shown elasticity to price. India one of the biggest consumers of Gold reported 90% decline in Gold imports year on year for the month of January 09, when the prices touched all time highs due to increased global price and weakened domestic currency. Since then the currency has weakened further and there are reports of households selling old gold and avoiding new purchases.

 

Some other interesting facts about gold

1. Except for the last five years, gold has been in a bear market after a peak in 1980.

2. Central banks have tons of bullion which they occasionally threaten to sell. Will they not realize this threat if national debt needs to be repaid? Central Banks have pledged gold in the past to obtain foreign debt.

3. If you don’t count the last five years, gold stocks have not done well.

4. The Gold stock in the world is lesser than silver and more than platinum.

 

Conclusion

As with any investment it’s easy to get carried away during a bull market is prevailing. When oil was at US$147 the prediction of US$200 a barrel looked true, but then fundamentals kicked in and the demand dropped drastically as consumption slowed.

Same can be the case with gold, with prices around US$900/oz the targets of US$1200 or even 1500/oz look within striking distance. To support the technical analysts who are recommending gold would point out that gold has created a strong foundation around US$900/oz and is ready for the next big move, but looking from the other side you can see that Gold has made multiple attempts to breach US$1000/oz mark but has been unsuccessful thereby creating a resistance.

 

Also why is gold the only metal being recommended for investment? Silver and Platinum are equally precious and have a wider industrial use. Both the metals have corrected by around 40% from there all time peaks which is definitely more than the correction that gold has underwent (10%).

Lastly do answer these questions before considering to “invest” in gold, you might realize that Gold could be the next bubble to burst.

 

1. Does Gold grow with time, or generate income or pay interest.

2. Is owning Gold not associated with storage costs, Insurance etc?

3. If you lost your job and had Gold and House as an Investment – which would you sell first?

4. Can gold be eaten?

5. What would happen if the gold funds faced redemption pressure?

 

Published in Business Times as well – http://www.businesstimes.com.sg/sub/premiumstory/0,4574,327931-1239479940,00.html?

Derivatives, Finance

Exotic Option Strategies – Long Iron Butterfly

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Have you ever wondered what happens if you combine two simple options trade together or if you combined them would they create something new and exotic? Well, the answer is both yes and no.
Some strategies when combines would give you a new strategy – One such strategy is Long Iron Butterfly.

The Simple Long Butterfly
A simple butterfly spread is when a trader would Buy put (or call) A, sell two puts (or calls) at higher strike B, buy put (or call) at equally higher strike C. The pay off is to limit the downside on extreme moves but gain if the market remains rangebound.

 

Long Iron Butterfly
On the other hand a Long Iron Butterfly is when a trader would Buy Straddle, sell Strangle with strike points outside the upper and lower strikerange of the Straddle, e.g. Sell a put (A), buy a put and a call at higher strike (B), sell a call at equally higher strike (C).

 

The payoff here is that the trader expects a move on either sides of the trade and gains on the premium.

 

Interetingly the payoff’s for both the strategies is in opposite directions.

So much for the identical strategy names but for opposite pay off’s!!

Economics, Finance

I like deflation and so should you!!

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Well the news of India hitting sub zero inflation or more technically a deflation has been making rounds. The general sentiment around this news is negative, implying that its not a good thing to happen.
Before going further lets explore the economic definition of deflation.
In economics, deflation is a sustained decrease in the general price level of goods and services resulting in an increase in the real value of money — a negative inflation rate.
Now that sounds good. I definitely want the value of my money to increase and would be happy if i could buy things at a cheaper price. So why are people not happy about hitting deflation?
Well the real worry is that theoretically deflation is caused by fall in demand and in turn results in lower demand as buyers wait on the sidelines before committing to a new purchase thereby causing a deflationary spiral.
Before going any further lets see what is inflation and how is the inflationary figure calculated. Inflation is the increase in prices of a basket of goods over a period of time. So something that cost ed 100 units of currency costs 103 after a time period indicating that their is more demand than what supply can keep up with and purchasers are willing to pay more. This is technically supposed to prompt investment to increase supply.
Let me ask you this – what is the objective of increasing supply efficiencies? Simplistically speaking – to ensure there is enough goods that can satisfy the demand. If the demand matches supply then theoretically there should be zero inflation. So what growth is really aiming at is to eliminate inflation.
Looking back at historical data prices of a lot of goods have fallen absolute basis as efficiencies increased thereby prompting growth.
One classic example would be computers – just a few years back a PC with 1/10th the power costed around the same price as today. Same with medicines.
So I think deflation once a while is a good thing. It improves the purchasing power of money.

I like my groceries, cars,  ipod’s,  jewellary cheap and the house at an affordable rate (bet you do too!!).
So feel good that we are headed for a deflation and lets hope its not a deflationary spiral but just an adjustment of suppy, demand and prices.

Economics, Forex, Remittances

Immigrant Population and cost of remittance

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In the new flattened world the mobility of labour is at levels never seen before in history. You would find people from Philippines working in US and Saudi Arabia and so would be workers from Suriname working in Netherlands. A general trend is people from poor or developing countries moving to the greener pastures of Developed countries to break free from poverty and lower standards of life. These workers are contributors to the home countries forex reserves as well as the improved living conditions of their families.
World Bank maintains an intersting stastic of cost of sending money from one country to another for small remittances – $250 and $635 USD equivalent.

The most interesting inference that can be drawn from these graphs is the constitution of the immigrant work force in the country of origin for the remittance. The cost of transfering money also represents the development of the receiving countries banking system.

Interestingly India appears to be one of the top 5 destinations to which money can be remitted cheaply in most of the cases, which shows the spread of Indian workforce across the globe.

A few samples from the World Bank site are reproduced below:

Canada can_1033

Francefra_1033

Germanydeu_1033

United Kingdomgbr_1033

 

 

 

 

 

 

United Statesusa_1033

Singaporesgp_1033

 

 

Forex, SGD INR

Even Better time to convert your SGD to INR

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With the recent volatile movements in the Currency markets and substantial weakening of INR against the USD here are some more analysis on SGD/INR conversion.

The latest USD/INR rate in the interbank market stands at 51.75 (3 March 2009, 3:00 GMT), this is a appx. 4.5% deprecaiation since the last post. SGD on the other hand has depreciated by appx. 2.0% against the USD – from 1.517 to 1.556.

The trend shows a beta of appx. 2 between the depreciation of INR against USD as compared to SGD against USD.

The latest market buzz is for the INR to depreciate to Rs.54 against the dollar on a conservative basis and Rs.56 on a pessimistic basis due to balance of payments situation, falling GDP growth rate and overall withdrawal of Foreign Direct Investment.

 This would translate to a depreciation between 9% to 13% from the rate of 49.5. If the beta factor holds then the SGD should depreciate by 4.5% to 6.5% from the base price of 1.517. This would give a range of 1.585 to 1.615 against the USD.

Using the cross rates the SGD/INR should be in the range of 34.06 to 34.67, resulting in movement between 3% to 5% from the current price of 33.06 over a period of 3 months – if Rupee depreciates further

The interest rate gain for three months would avg 2% [(9% (indian Fixed deposit rate) – 1%(singapore deposit rate)/4] so even if rupee weakens down to 56 against the dollar you stand to gain 5%-2% = 3% if you hold for three months and 1% if it touches Rs.54. Given the interest rate diffrential and probability of more than expecetd weakening of SGD against the USD (beyong 1.617), it is a even better time to convert SGD to INR

Finance, Forex, SGD INR

Right time to convert your SGD to INR

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The Singapore dollar has held a pretty steady rate averaging Rs.32.25 / SGD in the past few months. We try to explore why borrowing in SGD and converting to INR is a good idea at this point in time.

The Historical Rate perspective
It first crossed the Rs.32 barrier mid July ‘08 and quickly retraced back around 10% to Rs.29.5 by mid August ’08. The SGD was quoting 1.35 and INR at 42.66 against the dollar, giving a cross rate of Rs.31.60 against the Singapore dollar as on 18th July 2008.
Then the financial crisis gathered steam and till date USD gained 11.37% against the SGD and 13.65% against the INR.
From the historical lows the USD has gained 22.65% against the Indian Rupee and just 11.37% against the SGD (sees charts below)

    usdsgd

  usdinr

 

 

 

 

 

 

 

 

The Economic Perspective
The Singapore economy has slipped into technical recession and the growth rates are projected to be within the 2% mark for 2009. India on the other hand projects a growth rate of 6-7% for the current year. In a nutshell the Indian economy is still growing which should result in a greater demand for Indian currency as compared to the Singapore dollar.

The Interest Rate Perspective

The average bank savings rate in Singapore hovers around the 1% mark as compared to 4% in India.
The long term fixed deposit rates for upto a year fetch appx. 2.5% in Singapore and 8.5% in India.
A one year return analysis will show that SGD against INR should move to 34.40 in a year’s time to maintain exchange rate equilibrium:
sgdinr-projection

 

 

 

Conclusion
Given the growth rate differential of around 4% between the two economies and the weakening of INR against the USD by twice as much as SGD, there is every probability that either the SGD will weaken further against the dollar or INR will appreciate against the USD to achieve equilibrium, by around 10% – giving a target rate of around Rs.30 against the Singapore dollar.
So if you convert your SGD to INR now you stand to gain:
         1. 14.67 % if the SGD/INR comes down to Rs.30 and you invested your converted proceeds in 8.5% Fixed deposit for a year in India
         2. 5.85 % if the exchange rate stays at 32.5 and you invested your converted proceeds in 8.5% Fixed deposit for a year in India
         3. 0% if SGD/INR moves to 34.40 (the probability of this is really low

Derivatives, Finance

Lesser Known Derivative Strategies for volatile times – Jelly Roll and Put Ladder

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Most of us would have heard about the classical derivatives strategies like Straddles and Strangles, but the world of derivatives trading has much more to offer. Jelly Roll and Put Ladder are two of the lesser known strategies which are quite useful in volatile times.

 

Long Jelly Roll

This is a time value trade (involving the sale and purchase of options with different expiry months) and as such cannot be adequately plotted in terms of its risk/reward profile.

 

The trade:

Buy put, sell call at same strike price in near expiry month, sell put, buy call at same strike in far expiry month (the strike price in the far expiry need not be equal to the strike price in the near expiry).

 

Market expectation:

Direction neutral/volatility neutral. This trade consists of a short synthetic underlying in the near month and a long synthetic underlying in the far month. The holder will benefit if the differential between the futures prices of the two expiries (or the cost of carry differential in the case of premium up front options) widens.

 

Profit & loss characteristics at expiry (of near synthetic):

The potential profit of this trade is restricted as it arises from a widening of the futures price differential of the expiry months in question. After the expiry of the near term options, the holder is left with a long synthetic underlying position. The holder will therefore benefit from a rising market after the first expiry, and will be adversely affected by a falling market after the first expiry.

 

Long Put Ladder

 

ladder1

 

The trade: Sell put (A), sell put at higher strike (B), buy put at an even higher strike (C).

 

Market expectation: Direction bullish/volatility bearish. Holder expects underlying to(continue to) be between strikes A and B and firmly believes that the market will not fall.

 

Profit & loss characteristics at expiry:

 

Profit: Limited to the difference B-C, plus (minus) net credit (debit). Maximised between

strikes A and B.

 

Loss: Unlimited if underlying falls. At C or above, loss limited to net cost of position.

 

Break-even: Lower break-even reached when the intrinsic value of the purchased put C

plus (minus) net credit (cost) is equal to the intrinsic value of the sold options A and B.

Higher break-even reached when underlying falls below strike C by the same as the net cost of the position.

 

 

 

 

 

 

Economics

Does OPEC cut in oil production = a Cooler world??

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The straight forward answer would be to say…lesser consumption leads to lesser demand leads to lesser production results in lesser green house gasses and in turn a cooler earth.
But digging a little deeper we find that the reduction in production is OPEC’s way to ensure that the Oil price atleast staibizes, around $45 mark if not march towards its recent glory.
So if falling prices are the motivation to reduce production then lower prices should also result in an increase in consumption, albeit with a lag. The general consumer is cautious given the recent super spike in oil.
If the prices remain subdued for a fairly long time, the consumers are bound to return to gas guzzling vehicles and heavy energy use.
Though we should remember that this time around there have been substantial investments and initiatives towards alternative energies. These should start to become commercially viable in a few years time (hopefully by the time next oil spike is ready to happen).
What we do not know is that how these alternative sources of energy would impact the global warming. In a few years time we might realise that the energy harvested from the oceans impacts the ocean currents which in turn adversely effects the weather pattern thereby increasing the global warming. There could be similar undiscovered effects using the nuclear energy, wind power, hydro power etc.
So if you want a “cooler” earth, reducing energy consumption is the only long term viable option!