Monday, July 26, 2010

In Gold we trust...

(This was written for a personal finance magazine)

Gold has always fascinated Indians. India was an amalgam of many princely states, till the British united us finally in 1947. Perhaps, the absence of one currency and the instability as each ruler was overthrown by another is the reason why gold became the Indians’ store of value.
Classic investment reasons for investing in gold include:
i) To beat inflation’
ii) To protect against a weak dollar;
iii) Safe haven in times of economic and political turmoil;
iv) For portfolio diversification; etc
Investing in gold has been a painful journey. I will just give you some dates and prices:
1968 Jan $ 35.20
1969 Jan $ 42.30
1974 Jan $129.19
1979 Jan $227.27
1989 Jan $404.01
1999 Jan $287.07
2009 Jan $858.69
2010 Jan $1117.97
(Above are average prices in US dollars per ounce for the month).
The journey looks smooth, does it not? What I have not told you here is that there was a kind of rush in end 1979 and beginning 1980. In Jan 1980, the price of gold had shot to near $850 an ounce and then there was a painful decline to $280 or so by 1985. Then the price climbed to over $500 in early 1988! By end 1999 it had gone down again to near $260 or so! It is only after 1999, that there has been a steady uptick in gold prices. Of course, the steadily falling Indian rupee in the first six decades of Independent India bumped the returns for the early Indian investor.
So, all those who advocate gold investments will only give you data from 1999 or later. Before that, you could have lost a fortune betting on gold.
So, do not buy the argument that gold is a failsafe or fool proof investment. Timing is all. If you look at it dispassionately, gold as a metal has very limited use. It is only a ‘perceived’ value. The cost of mining gold varies from country to country, but is generally around US $ 300 or so per ounce. So, in today’s markets, the producers of gold are reaping a bumper bonanza. What keeps the price high? It is perhaps a beautifully managed (manipulated?) price by the World Gold Council. Demand and supply are both artificial. Demand in India (the largest private hoarder of gold) is around 700 tonnes or nearly one fifth of world demand.
Now, you do not have to buy physical gold. Buying physical gold is the worst way to invest in gold. If at all one has to buy gold, the best way is to go in through the Gold ETF (Exchange Traded Funds). These trade at real time prices and there is no opaqueness about them. You are saved the bother of worries on quality, storage etc., Never buy jewellery for investments. You lose a fortune in making charges and a high probability of getting cheated on purity.
Even though India is the largest consumer of gold, gold prices are still designated in US dollars. Hence, how our rupee will behave has a great bearing on gold prices. My belief is that over time, if our economy continues to grow at twice or thrice the pace at which the US is growing, there is no reason why the Indian rupee should not keep getting progressively stronger? In fact, this is the biggest risk that gold investment carries. In ten years, the Indian rupee should logically be closer to thirty rupees to the dollar than forty. In such a case, if the gold price stagnates at current levels, as an investment, we end up losing money.
To me, the basic call one has to take is whether you are bullish or bearish on India. If you are bullish on India, relative to the US of A, over the next ten years, then gold cannot be such a great investment. Equities will be a far superior bet. The counter argument to this is that if there is a crisis in US of A, the dollar will collapse and gold prices will shoot through the roof as the world looks to gold as a reserve currency. With the crisis in Europe, it is unlikely that the Euro will ever replace the US dollar, so there is a fair chance that some people will park some of their money in gold. The other factor is that the World Gold Council will at some point not be able to regulate supply and the high prices will lure miners to produce more gold and bring the prices down.
On balance, if there are uncertainties about the global situation, gold may turn out to be a decent investment. This also depends to a great deal on how the World Gold Council controls the supply. If some central bank decides to come and sell a few hundred tonnes of gold, that will create a drop in prices.
In short, whilst gold has given spectacular returns since 1999, there is no guarantee that it will continue to do so. However, in times of fear and uncertainty, gold has its proponents. The other thing is whether you look at investing in gold as just another investment. Most Indians never sell gold if they buy. In such a case, it hardly matters what price you pay and what returns you get. One decent way to go about would be to go ahead with a SIP in gold ETF. The only loss out of that would be the annual management fee and the expenses that the AMC will charge you. A small price to pay as compared to owning physical gold.


Dsylexic said...

ok.spoken like a true equity speak of the WGC as a manipulator forgettin it is the central banks who hoard most of the gold and have committed to sell gold -until recently.they are clearly the biggest manipulators in the market.

trying to value gold by it usage as a commodity is like buying insurance only because you want the tax benefits.
gold is not an investment as much as it is an insurance -against the guaranteed debasement of paper currency.

Frustrations Amalgamated said...

@Dsylexic- Thanks. Gr8 point about Gold being an insurance against what the Central bankers are doing to the currencies, world over. And you are right. The process is under way across the globe.