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Is gold the best buy now?

With financial assets crashing this year, gold has come up as the winner. The last one-year return for gold has shot to around 27% in rupee terms. This then becomes even more enticing for those who feel they missed the gold bus.

With financial assets crashing this year (till the corporate tax rate cut in September halted the slide - for now), gold has come up as the winner. The last one-year return for gold has shot to around 27% in rupee terms. This then becomes even more enticing for those who feel they missed the gold bus.  

You may feel that the answer lies in increasing the allocation to gold or perhaps even selling equity and other financial assets to invest in gold, however, it works to remind you that past returns are the last reason to invest today. But when it comes to gold, there are other reasons to tread carefully. 

Gold does not give you an income

When you invest in equity, there is a source of income generation in the form of dividend. When you invest in fixed deposits or bonds, there are interest pay outs that contribute to income. In case of equity, the other source of income is capital gains which happens with rise in stock prices due to fundamental value created by the company (stock) you invest in. Unlike equity and fixed income investing, gold has no underlying value or income. It derives its value from its limited supply and distinct qualities of purity. The purity doesn’t change and ideally the value or worth of that should not either.

What gives gold prices a boost is the fact that the supply of gold is limited, hence, when demand starts to go up – prices rise. The opposite can happen too. Unlike equity where despite falling prices you can earn through dividend, when gold prices fall you have nowhere to hide. 

Gold jewellery is not great as an investment 

Often your investment in gold can get translated into consumption in the form of jewellery. Gold jewellery comes with a making charge which increases its cost. If you are thinking of it as an investment, you will lose out at the time of selling the jewellery because you can’t recover the making cost which you paid originally. Secondly, for some types of jewellery, particularly with stone work, jewellers apply lacquer, which also reduces the quality of gold and its resale value. 

If you are investing in gold then don’t invest in the form of jewellery, as you can potentially incur a higher cost and recover less at the time of sale.

What gives gold prices a boost is the fact that the supply of gold is limited, hence, when demand starts to go up – prices rise. The opposite can happen too. Unlike equity where despite falling prices you can earn through dividend, when gold prices fall you have nowhere to hide. 

Gold price in India is derived

Gold prices are impacted by a number of variables globally. Its biggest influencer is the change in US dollar. Typically, if the US dollar is strong and rising, gold prices move lower. Both are considered a good store for value and hence, when one is more popular, the price of the other declines as its demand falls. What does this have to do with your gold allocation? India imports almost all its gold requirement, which means the domestic rupee price of gold is simply a conversion of its US dollar price. 

This also means that if the Indian rupee is falling against the US dollar, gold becomes more expensive in India. Since, you will buy and sell gold in Indian rupees this should not have an impact on your trade itself. But since the rise and fall of gold prices is dependent on external factors, price change can be fickle.

Data as of 31st August 2019. Prices per Troy Ounce

The historical chart of domestic gold prices shows that the volatility has increased in the last decade. Plus, some of the gains in domestic gold price are a result of falling rupee against the US dollar. Traditionally, it has been considered a safeguard against high inflation and capital market risk. You can allocate some amount in your portfolio towards that, but there is no fundamental reason to assume that gold will help you create long term wealth.

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