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1. Introduction
Gold is often viewed by investors as a safe haven or a hedge against market turmoils, currency depreciation and other economic or political events[1]. For instance, during 2008-2009, major market indices, including the Dow and the S & P 500, declined by about 20 per cent while gold prices rose from $850 to $1,100 per troy ounce. In August 2011, the price of gold reached a peak of $1,900 an ounce soon after the Standard & Poor's downgrade of the US credit rating. However, a direct investment in gold bullion is difficult for many investors due to high storage cost and the lack of a liquid exchange for gold bullions. To gain exposure to gold, investors can alternatively trade various instruments, such as gold futures, gold exchange-traded funds (ETFs), exchange-traded notes (ETNs) and leveraged ETFs/ETNs.
Gold futures are exchange-traded contracts written on 100 troy ounces of gold, with a number of available delivery dates within five years of any given trading date. In the USA, gold futures are traded at the New York Mercantile Exchange (NYMEX). The available months include the front three months, every February, April, August and October falling within the next 23 months, and every June and December falling within the next 72 months. Trading for any specific contract terminates on the third to last business day of the delivery month[2]. As we will see, the futures prices are highly correlated among each other and the various gold (L)ETFs.
Gold ETFs and ETNs are designed to track the spot price of gold, and are liquidly traded on exchanges like stocks. In fact, the SPDR Gold Trust ETF (GLD), is one of the most traded ETFs with an average trading volume of 6.2 million shares and market capitalization of US $33 billion as of July 2014[3]. Within this gold ETF market, there are funds which seek to provide investors with a return equal to a constant multiple of the daily returns of spot gold. Such funds are called leveraged ETFs (LETFs). Common leverage ratios are ±2 and ±3, and LETFs usually charge an expense fee for the service. Major issuers include ProShares, iShares and VelocityShares (Table I). For example, the VelocityShares 3× Long Gold ETN (UGLD) provides a return of three...