A global play on India’s largest imports – Oil & Metals

As the world transitions from unipolar to multi-polar, global geopolitics has hit a reset button for the first time after the collapse of the USSR in 1990. In the midst of a new market cycle with mixed GDP prospects across major economies, where DMs are constrained by structurally sticky inflation, and tighter monetary policy conditions are the norm, risk needs to be repriced and reassessed by investors who are ingrained to think about directional growth in the last decade of financial stimulus and ultra-low rates. This great reset can cause unexpected and deep bouts of market volatility, requiring a more actively managed multi-asset class approach to portfolio optimization. This great economic reset also means a highly disproportionate interest in sectors such as oil and gold, which are closely correlated (in unique ways) to economic activity, inflation (or currencies) and market cycles. For Indian Investors who seek long-term alpha, alongside some protection from inflation and currency depreciation over a decade or more, then global diversification (being pure plays, not available in domestic markets and not state-controlled underlying sector policies) through these two sectors is pivotal in maximizing their portfolio returns while hedging the above risks at its lowest.

Interestingly, when an investor looks to add a global tinge to its portfolio, it typically looks at equity exposure without oil or gold stocks. Also, those who do understand the benefit of overseas investment, limit their global exposure only to the US market or to the US technology sector largely, thanks to the several daily interface products such as Gmail, Facebook and Twitter. However, such broad sectors have high correlations to global GDP and the Indian markets and the investor is unable to achieve risk diversification. For example, The Tech-driven market fall in the US also impacted Indian listed firms, or the slowdown in tech spending in the S&P 500 hurts the prospect of Indian tech behemoths.  

In the current geopolitical context, global diversification to oil and gold assets is more appealing for an Indian investor, as the country has been the largest importer of both these assets—40% of the total imports. In addition, it also acts as a hedge against the potential decline in Rupee and expected moderation in GDP due to potential external shocks. Lastly, the valuation of global metal and energy stocks appears to be at quite reasonable levels compared to the broad markets and their historical levels. Gold typically is known to rally during periods of currency turbulence and recession fears. Oil too benefits in geo-political situations and high oil prices remain a drag on India’s macros. With an eye on hedging long-term inflation and related currency impact, ICICI Prudential has offered a Fund of Fund (FoF), where it invests in the units of First Trust Strategic Metal and Energy Equity UCITS fund, which has an active allocation to global energy and gold mining stocks. The FoF provides exposure to global gold and oil equity companies, which otherwise are not present in India.

The unique approach of this Strategy is its two-factor-based method to decide allocations across gold mining and energy sectors. The allocation is first adjusted based on the correlation of currency factors, and the sector with a lower correlation receives an extra 10% weightage- in the portfolio. The allocation is further adjusted based on the total returns (calculated using various market parameters) posted by each sector, the sector with higher return receives an overweight weightage by 10%. The maximum cap on the sector allocation stands at 70%. In the current underlying structure, 48% of the fund is allocated to the oil & gas stocks, while the balance 52% allocation is made towards the metal stocks. In terms of performance, since inception (February 2022), the fund has outperformed delivering a 28.77% return as compared to the negative 0.88% by the Nifty 50. The benchmark of the Scheme – NYSE Arca Gold Miners Index and the S&P Oil & Gas Exploration & Production Select Industry Index – delivered 23.78%. Data as on March 31, 2023.

The most important feature of the fund is that while gold and oil would benefit from unique global economic and monetary scenarios, the active approach to move allocations across both sectors would optimize the play without investors trying to time the market themselves. Standalone historical returns of oil and gold can yield mixed results unless investors had the professional expertise to move across both sectors or their equities (high beta vs commodity) through a better understanding of the factors involved, as being endeavoured by this strategy. The offering can be considered by an investor who wants to hedge the price of oil paid at the fuel station, or build a USD corpus for a child’s overseas education, or simply optimize portfolio risk-adjusted returns by benefiting from global sectors less correlated to Indian markets. In each of these situations, the fund can be considered as a part of one’s core holding.

(Joydeep Sen is a trainer, author, and columnist at wiseinvestor.in. Views expressed are the author’s own.)