Diwali is round the corner and traditionally, Indians have a tendency to step up buying gold during the festival season. However, the question on whether gold should be bought at current levels is something that has come up every year, with historical data indicating that those who buy in the run-up to the festival season have gained handsomely. The question comes up this year too, as gold is trading clearly above Rs 30,000 per 10 grams level.

Outlook for Gold

With no visible sight of economic and geo-political stability, there are bound to be uncertainties surrounding currencies, crude price, equity markets and pertaining on economies as a whole. In such a scenario, these conditions only augur well for the rise in price of gold. While traditionally, India has been the biggest consumer of gold, China has now overtaken India in terms of the demand for gold. In the quarter ended December 2011, the demand for gold from China stood at 190.9 tonnes as against the demand from India at 173 tonnes.

“With an increase in global uncertainty, the central banks around the world are accumulating more and more of gold and there is a flight to safety,” said Sundeep Sikka, CEO, Reliance Mutual Fund. There are others who voice similar opinion. “I don’t see it as gold going up but it is the value of money coming down. So as long as people are printing more and more money, I don’t think the value of gold will come down,” said Ritesh Jain, head of investments at Canara Robeco Mutual Fund.

But looking at the performance of gold in the last 12 years, there is no guarantee that the prices of gold will go up again by next Diwali and there are experts who feel that the prices in India too may soften over the next one year. “I think globally gold has gone too far and is due for a correction. In India too, both gold and rupee will fall with strengthening of Dollar,” said Jamal Mecklai, CEO, Mecklai Financial Services.

Should you invest?

Irrespective of whether the price of gold rises or falls over the next one year, gold in the long term does preserve its value and generates an above inflation return. While it is a commodity and commodities have their cyclical risks, gold is expected to generate positive returns in the long run as the supply remains a constraint and the demand may pick up after countries emerge out of economic slowdown pressures. From just having an ornamental value and primarily coming across as an asset of the last resort, gold has now clearly emerged as a favoured investment instrument. Financial planners say that a part of the individuals total investment should be routed into gold as it also acts as a hedge against inflation in the long term.

“Gold should be held by investors as in the long run it generates above inflation return. But investors should not get carried away by the returns in the recent past and stick to around 5 per cent of their networth into gold,” said Veer Sardesai, a Pune-based financial planner. There are others who say that gold investment can be between 10-15 per cent of the investment portfolio. While equity markets have a negative correlation with inflation, gold has a positive correlation with inflation and thus preserves its value in the inflationary environment. Also, since gold also has a low correlation with equity, it provides stability to the portfolio.

How to invest?

The choices for investors have grown significantly. From just the two options of jewellery and coins and bars, investors have the option to buy in paper form through gold exchange traded funds and gold savings funds of mutual funds. Experts are of the opinion that if gold is not purchased for consumption in the form of jewellery then the investment has to be in the paper form. There is a reason to it. Coins and bars sold by banks and jewellers come at a premium which may range between 5 to over 15 per cent. For example: On Thursday (November 1) the price for gold standard in Mumbai stood at Rs 30,940 per 10 grams, but the price of a 10 gram coin of HDFC Bank stood at Rs 36,436 (incl of sales tax) on Friday, which is a mark up of 16 per cent. That of ICICI Bank stood at Rs 35,940 (excl of taxes) which is a mark up of 14.5 per cent to the spot price of gold. Even at Tanishq the price of 24 carat, 10 gram coin on Friday stood at Rs 36,280 (inclusive of all taxes). If you invest through these means, when you go to sell, it will only be bought back by a jeweller at the market price and forget about making profits, you will not be able to recover your cost till gold prices hit your purchase price.

By comparison the expense ratio of gold exchange traded funds (ETFs) of various schemes vary between 0.5 and 1 per cent. Gold ETFs are open-ended funds that allows to invest in gold without physically holding it. The fund is listed and trades like any other stock. It invests the money raised in physical gold and allocates units of the fund to the investors depending upon the NAV and the investment amount. The investor can redeem the investment whenever he wants at the redemption price which is almost similar to the day’s spot price of gold. Another advantage of ETFs is that investors can invest even through systematic investment plans and thus invest as less as Rs 500 every month.

Conclusion

Gold investment should be done only with an aim to provide stability, security and diversity to the portfolio and not with the aim to earn supernormal returns generated over the last few years. While jewellery buying is something that families cannot avoid, when it comes to investing, always look to buy it through the mutual funds.