Does it make sense to invest in GOLD? An interesting read!

Traditionally, gold has been one of the most important means of investment for Indians, especially in the South. To no surprise, Indians are the leading consumers of gold in the world, and hence gold constitutes a large portion of our imports. This has predominantly been in the form of physical gold/jewellery, a key family asset that is passed on to the next generations especially during their weddings. But, does it pay to invest in gold?

Historical Gold Prices and Returns

It is important to understand the historical gold price movement, before we delve deep into the merits/drawbacks of owning gold, to gain a better perspective on the returns it has offered so far.

The price of 1 gram of this yellow metal has grown from a value of ₹142.65 in 1980 to around ₹5,500 in 2020(during its peak), an average return (CAGR) of 9.6% over 40 years.

These are some decent returns for an investment vehicle, that has the lowest default risk. Gold is definitely offering a return higher than your fixed deposits and a comparable return to bond portfolios, without the underlying default risk.

Isn’t this simple math? Shouldn’t a risk-averse investor, just stay invested in Gold?

It definitely makes sense to invest in gold. However, there are some considerations that investors need to understand before they start investing in gold. Also, this should not be the only investment avenue and the only reason to invest in gold, for the reasons listed below. 

  • Physical gold doesn’t give the same returns: Traditional investment style of holding gold in the physical form doesn’t allow investors to enjoy the returns completely (explained later in the article)
  • Past returns can’t be a measure of future performance. Though we have seen a CAGR of 9.6% over the past 40 years, that doesn’t guarantee a similar performance to continue in future, when you invest in gold.
  • Don’t put all your eggs in one basket. A variety of supply, demand, systemic and external risk can change this scenario completely. Aluminium used to be the most precious metal till 1884, it used to cost $16 a pound in 1884, $419 in today’s dollars. You can read this article for more details.
  • Steep upside movements in gold are generally followed by long consolidation cycles. The price movement you saw in the above chart is not so smooth in reality. To understand this better, let’s look at the chart below that depicts the daily price movement of gold over the last decade.

The gold price has increased from ₹1,800 levels in 2010 to ₹3,300 levels in 2012, 83% return in a short span of 2 years. However, it has remained in those levels for nearly 7 years. It even touched a bottom of ₹2,500 in 2016.

When does it make sense to invest in gold?

1. When held in the Electronic Form

Holding gold physically has a series of disadvantages and limitations that could eat into your profits. Some of them are listed below:

  1. Illiquidity of the asset – Physical gold doesn’t provide you with the liquidity you need and results in a distress sale, you generally have to sell the asset at a much lower value than the prevailing market price
  2. Quality Concerns – Barring the last decade, most of the retail gold purchases were done without any standards like the BIS Hallmark, KDM etc. This has resulted in quality concerns and poor resale value for legacy gold.
  3. Repurpose Cost – Jewellery can’t be easily exchanged for cash at market price, a repurpose cost is generally attached to convert it to saleable gold, this could sometimes go up to 20%
  4. Locker Charges – Gold in the physical form needs locker space, which comes at a fee. Most people ignore this hidden cost while calculating their returns. In the long run, this fee can be a substantial amount that might dent your returns. Consider paying locker fee for 40 years, when you invest in gold, your overall returns could reduce by 1-2%. In the long run, this could make a huge impact on your overall returns.
  5. Chance of Theft – Though the chances for theft are rare, it still can be a parameter for evaluation, when you invest in gold, in the physical form.

Investing in digital gold removes all these challenges and provides you with the liquidity you need to react to market fluctuations. More on the market fluctuations below.

Read our article: Various Options for investing in digital gold in India

2. When used as a diversifying mechanism to balance your portfolio

Traditionally gold shares an inverse relationship with the stock market and offers great comfort in periods of steep market corrections/recessions. These corrections/recessions limit our ability to withdraw capital during distress times and erode all gains if the stock market is the only investment vehicle of your choice. To understand this better, let’s look at the stock market movement (Nifty Index) and the fluctuation of gold prices over the last one year (Nov 2019 – Oct 2020), due to the COVID pandemic.

During this period stock market (Nifty Index) fell from 12,250 in January 2020, to 7,610 in March 2020, an approximate fall of 40%.

Many individual stocks have reduced to a fraction of their pre-covid levels, prices we haven’t witnessed in a decade. The Nifty index took 8 months to reach the previous levels, while many individual stocks are still struggling to get back to their pre-covid levels.

During this time, gold has risen from ₹3,873 in Jan 2020 to ₹5,464 in August 2020, an approximate rise of 40%. Gold has not only remained steady in the pandemic but has given the much-needed comfort to investors who had exposure to it in their diversified portfolio.

Exposure to gold has provided the investor two key advantages:
  • In case of a sudden need of capital during COVID, investors do not have to sell their shares at rock bottom valuations, they could rather sell gold at all-time high prices to substantiate their capital needs.
  • Investors can rejig their portfolio by selling gold at higher valuations to buy stocks that have reached decade-old values for multifold returns in future, a rare opportunity.

Conclusion

It makes a lot of sense to invest in GOLD. However, it should not be the only investment avenue for your hard earned savings. You should have a diversified portfolio which could be a combination of stocks, bonds and other investment vehicles, along with gold.

One comment

Leave a Reply

seventeen − nine =

This site is protected by reCAPTCHA and the Google Privacy Policy and Terms of Service apply.