03 August, 2015

The Gold conundrum

Gold has had an allure with people, since times immemorial. Gold has been used for ornaments and as embellishments since the yellow metal was discovered. Part of the attraction is it’s malleability, ductility & inertness. Partly, it is due to the rarity of the metal itself.

Indians have always had a soft corner for the yellow metal. Kings of yore used it in their currency. They used Gold as a store of value. The one with the higher gold reserve in the treasury was hence the richer one. Also, gold was extensively used in their palaces & personal effects as a statement of wealth & grandeur.

We have continued with that tradition of seeking to invest in Gold even today. But, is gold investment a good option now?

Advantage Gold -  

Gold is a unique metal in that it is inert. It can easily be drawn into whatever form one wishes and hence very suited for intricate designs in jewellery. In today’s context, Gold is seen as a store of wealth due to another reason. Governments print currency notes and hence they get debased and their value plummets. Gold is very good in that gold supply cannot be increased by governments at will. Hence, Gold will always have a certain intrinsic value.

Gold has been used as currency or has been part of currencies. In times of chaos / turmoil, when currencies lose their sanctity, Gold will still hold it’s value. Infact, in such a situation, only Gold will really have value.

Also Read: Get locked into debt instruments

The rants against gold 

Gold has negatives too.  Gold does not offer any returns unlike equities, FDs or property. It just sits there. In that sense, it is a dead investment. The returns from Gold come only when one sells it.  What’s more, there may be costs associated with holding onto Gold in terms of storage costs ( bank lockers ), insurance etc.

The historic returns of Gold have not been anything great – about 7%. Gold has very long cycles – about 30 years. 10 years of bull cycle and 20 years of bear cycle. The latest ten year bull cycle was between 2001-2011. The bear cycle has begun from 2011 onwards and hence is expected to play out for several years now.

Why is gold price falling ?  

Apart from the bearish cycle, there are other reasons. Due to the bull years all gold mining companies have increased their production capacity. The production capacity has gone up by 25% in the past few years. Gold production is now above 3,100 tonnes. This puts a dampner on gold prices straight away, especially when the demand is muted. 

Gold is inversely correlated with the dollar. Dollar is showing strength on the back of reasonable performance of the US economy. Also, dollar would probably further strengthen due to interest rate increase in US treasuries - which is bad for gold. China is not buying as much gold as anticipated, which is now a dampner. Greece Exit from Euro can aid gold, but that does not seem a possibility, for a while now. The other important reason why gold is trending lower is due to automated trades. These days, when gold hits particular levels automatic sell orders are triggered which brings down the value even further, making it a vicious cycle, where gold keeps trending lower and lower.

Should you invest in Gold now? 

Gold is an asset which is negatively correlated to Equity, currency & has low correlation to other investments. This makes it a good asset to have in the portfolio to reduce risk.  But there is no specific percentage that needs to be there in the portfolio, necessarily. It can be there upto 10% in one’s portfolio. If there is lot of equity in the portfolio, there can be a bit of gold in the portfolio to lend stability.

When we invest in assets, it cannot be only for returns. Sometimes some of the investments form a part of the strategic asset allocation in a portfolio. Gold investment should be treated as such. It cannot come in and go out of the portfolio, just because the asset is not performing now. Every asset does well at some point and does not perform at others. That is no reason to cash out.

The question uppermost in most peoples’ mind today is whether this is a good time to invest in Gold, now that it has corrected. It looks like a falling trend and gold may further correct. Internationally, Gold has breached USD 1,100 mark. Many experts following Gold closely have been of the opinion that Gold may go down to USD 1,000 by December 2015 and can even trade in three digits from thereon.

However, this is just an expectation and cannot be taken as conclusive. Hence, it might be prudent to invest in tranches over time.

How should you invest in Gold? 

Gold investments are best done in the form of financial assets – ETF or Gold MF schemes. In financial assets, one need not worry about the purity of gold, there is no storage, insurance cost & one is assured of the same returns which physical gold can offer. Also, when bought in physical form there is a cost of making it into coins, bars etc., which can be avoided when gold is bought as a financial asset.

Many people think that buying jewellery is an investment. It is not. It is just an expense as there are making charges and losses etc. which would have to be forfeited when the gold jewellery is surrendered for cash.

In conclusion -  Gold investment should be in the form of Financial assets and not in the form of jewellery. This may disappoint the ladies who have been under the impression that buying jewellery is an investment. Buying gold now in tranches would be fine. The most important thing is not to get carried away.  The golden rule is to stay with your recommended asset allocation & stay invested..

Article was published on Linkedin on 3rd Aug-15

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