Is Gold An Investor’s Paradise?

Posted in Finance Articles, Total Reads: 6728 , Published on 07 March 2012
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Hats off to the little yellow metal which has managed to outshine the millions of other investment options available today. With global economy downsizing and infla­tion rising, unemployment reaching the maximum level, and stock markets putting all their efforts to terrorize the investors, gold appears to be the “The Silver Lining” to the millions of investors around the world, be it in the form of bullion, gold certificates, mining-shares, derivatives, ETFs or even jewellery.

Gold investment

Gold has emerged as one of the most liquid and stable assets for investment purposes. During last two years, when all the asset classes have failed to perform, gold is the only investible asset that has remained upbeat. Gold is a hedge against the dollar and inflation. It has a very low correlation with other asset classes like equity and debt thereby a good asset to diversify the overall portfolio. If had invested $10,000 in January 2001, your 37.81 ounces of the precious metal would have been worth more than $69,000 by September 1, 2011.

As per the current status (January 18, 2012) the price of gold is Rs 27584/10g. The centre has raised import and excise duties on gold and silver hoping to mop up Rs 600 Cr more and contain current account deficit.  Raising import duty on gold to 2% of value from Rs 300 per 10 grams  to Rs 540 per 10 grams as per the current price. It could slow imports thus reducing dollar demand and strengthening the rupee.

Gold Price History

Gold Price per troy ounce

Source: - Wikipedia

As it is clearly visible from the chart, there has been a considerable increase in the prices of gold over the last 15 years (from 1996-2011). Last 2 years have shown an increase of more than 100%! Such trends fuel more demand for gold, which, combined with limited production and supply, drive prices even higher in a kind of cycle.

Gold vs Stock

E-gold on the Financial Technologies-promoted National Spot Exchange (NSEL) outperformed other gold investment avenues in 2010, due to the least transaction, brokerage and delivery costs compared to other options. Spot gold gave slightly higher returns, but given the risk involved in holding physical gold, many investors preferred to invest in e-gold. E-gold has offered 23.64 per cent return since its launch in March last year. Other options, including MCX Gold Futures, have offered comparatively less, with Gold BeES and Reliance Gold ETF posting 17.98 per cent and 17.82 per cent returns, respectively. E-gold was launched in April 2010 for investment by small investors who could not buy in bulk.

Gold Returns 











Source: - Business Standard

It also helps in diversifying an investor’s port­folio as it usually tends to progress opposite the stock market. Traditional options, such as bonds, property and hedge funds often fail to handle the market panic, and may sell off with equities in times of uncertainty. Gold is subject to market risk, but many of the downside risks associated with its price is different to the risks associated with other assets. This enhances gold’s attractiveness as a portfolio diversifier. The more volatile an asset, usually the riskier it is. The gold price is typically less volatile than other commodity prices. Portfolios consisting of gold may leverage this uncertainty and would be able to with­stand catastrophic economic situations.

Gold also enjoys a tax-free life in coun­tries such as UK, where gold coins like Sovereigns and Britannia’s are viewed as currency and so are exempted from VAT.

Plus, since the increase in value of gold has not been derived by work, it is not an income, thus there is no income tax either. Silver and other precious metals and do not enjoy the same luxury.

Gold enjoys psychological appeal. 4000 years after its discovery, it is still perceived as one of the most precious metals. This means that even during times of crisis, market failures and government defaults, gold is likely to retain its value unlike other investment options. This makes gold one of the safest collaterals for the financers to count upon, enabling them to lend money without much hesitation. Also it is not tied to any issuer’s liability unlike bonds, but is entirely the investor’s asset.

Gold is perceived as “The World’s Frightened Bunny”. Whenever the economy signals signs depression and downturn, the demand for gold has increased. During crisis, people fear that their investment options would be negatively influenced and would not provide them with necessary funds hence they see gold as an asset which will always buy bread. When Lehman Brothers declared bankruptcy in September 2008, the prices of Gold rose by 27% from $728 per ounce to $922 in a matter of three days.

Gold is also used to protect the economy from rising inflation by controlling the coun­try’s currency against fluctuating dollar. It is inversely related with dollar, i.e. when the dollar weakens, the price of gold will rise. Many currency traders treat gold as the 4th global currency, after Dollar, Yen and Euro. The European demand for gold comes mainly from German and Swiss investors because of concerns over public debt in the Euro zone and the potential inflationary impact of the European Central Bank's announce­ment of the $1 trillion rescue package to purchase Euro zone government bonds to address the Greek debt crisis.

Although gold is a great hedge in this risky time, the problem is that it is just – a hedge – and so when times are good for the economy, investments in gold can take a downhill path. Gold is today viewed as a safety-net against political and economic uncertainties, and its demand is high today only in such circumstances. But when world economy turns stable, gold prices languish, as it happened in the 1980s to 1990s. This is why it has been suggested that “inves­tors should hold no more than 15% of their assets in gold, and they should buy only when the price dips because the price of the metal is historically high.”

Gold has the advantage of being the most easily comprehensible investment to the average investor, considering that its value is set on an open market. As Market watch noted, “Gold is what a real bull market looks like”. Gold is under-valued, under-owned and under-appreciated. The supply/demand balance in gold is becoming increasingly tight. And although interim volatility cannot be ruled out, gold prices are likely to trade higher. It is most assuredly not well understood by most investors. At the beginning of the 1970's when gold was about to undertake its historic move from $35 to $800 per ounce in the succeeding ten years, the same observations would have been valid. The only difference this time is that the fundamentals for gold are actually better. Under such circumstances, the future of gold seems quite ‘golden’ indeed. Thus, holding Gold in your portfolio isn’t advisable...it’s a must!!!

Long live the king of all investments!

This article has been authored by Harsh Bhatia from IIFT.

Image: ponsulak / FreeDigitalPhotos.net


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