Should Gold Investment be a Permanent Part of Your Portfolio
Is this the start of a new normal? Do we have to live with Covid-19? Is this a repeat of the 100-year old Spanish flu? Is the stock market going to tank once again?
The answer to any of these questions is still unknown but one thing that we do know is that this is definitely bigger than what many of us would have experienced in 2008’s sub-prime crisis or in our lifetimes.
With global recession looming, many top analysts are predicting that there will be a huge contraction in the growth of India’s GDP. Unfortunately, it is difficult, if not impossible, to predict the impact with any level of accuracy. Time alone will tell the amount of damage that Covid-19 has inflicted on the economy.
During such crisis-like situations, there is only one asset class that has outperformed others – Gold. Gold, the yellow metal, is shining in these dark times. Around the world, the yellow metal requires no third-party guarantee, which is why most central banks still have huge amounts of gold reserves. The central banks of various countries have been stacking up on their gold reserves and as on March 2020, the US had the highest holding, with 8,134 metric tonnes, and RBI had increased its gold reserves by 40.4 metric tonnes in FY20 to 653.01 metric tonnes.
Historically, it is observed that the value of gold increases during uncertain times; for eg: war situations, geopolitical tensions, financial crisis or any pandemic crisis. That is why it is also often termed as a ‘Crisis Commodity’.
With the ongoing scenario, no one is able to predict as to when people would be able to go back to living what was considered a ‘normal life’. Since the outbreak of the first Covid-19 case in India, on 24th January, the equity market has fallen by 18.97% till 30th April and during the same period gold has given an astonishing return of 21.06%. This has endorsed the importance of having Gold as a part of one’s portfolio. Below are some points to consider while investing in gold.
Factors that support Gold in the current situation:
1. The impact of COVID-19 with no solution yet, in terms of vaccine. Due to this, there are economic uncertainties and fear in the market; a global recession is being forecasted.
2. The GDP growth of various developed as well as emerging markets has been revised substantially downwards.
3. The all-time high value of gold in dollar terms ($1900) was in the year 2011. Now, with the expectation of the price of gold increasing and depreciation of the rupee, there is a high possibility that we might see these levels breached.
4. Cost of money (interest rate) across the globe is reaching almost zero.
5. Record high global debt-to-GDP of nearly US$ 255 trillion, which is over 322% of the global GDP. This amount is also 40% higher than at the time of the financial crisis of 2008 (Source: Institute of International Finance)
6. Gold tends to have an inverse relationship with equity. It brings stability to a portfolio when there is an increase in stock market volatility. The table below shows that gold prices have increased whenever there has been a sharp decline in equity markets.
How much gold should one invest in?
Gold plays a unique role of diversifying a portfolio, unlike other asset classes. But while it is beneficial to hold gold in a portfolio, too much exposure to this asset could be counterproductive for the growth and health of a portfolio. Accordingly, a limited allocation of approximately 5-10% can provide a portfolio with the necessary advantage during times of economic uncertainty.
Modes of Investment:
Usually people buy gold jewelry and consider it as an investment in gold. Buying jewelry should not be perceived as an investment, as it is actually consumption expenditure. It is similar to buying a house to live in; that is a consumption asset; a second house can be an investment. Additionally, buying gold in the form of jewelry does not give returns as expected because it involves making charges and while selling it, the making charges are excluded which cuts down the profit you earn. Lastly, with our Indian mentality, selling of gold in the form of ornaments is considered a last resort because there are emotions attached to it.
There are multiple ways of investing in gold. Let us examine the pros & cons of the popular ones:
Below table shows the taxation of gold mutual funds and gold ETFs at the time of redemption is the same as selling gold jewelry. But taxation of returns from Sovereign Gold Bond is different.
Do allocate some component of your assets to gold, apart from jewelry. Various modes of investment in gold are now available to investors. Each investor can look at various option and chose the one best suited to his requirement. Gold offers a good opportunity specifically when investors are averse to equity as well as debt products. Gold ETFs and Gold Funds are preferred as it guarantees purity of the gold as well as there is no lock-in nor any hassles of physical storage. As regards SGB is concerned there is no underlying gold but it is basically the price guarantee assured by the government. If someone really wants to invest in gold in the physical form then they should go for gold coins or gold bars. And if they want to avoid the risk of storing physical gold then one can opt for Gold ETF or Gold Funds
You may also like to read: Tailwinds for Agri commodity prices in the time of Covid-19
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