Gold has a reputation for being viewed as a safe investment, a hedge against inflation, and a safety net in times of emergencies. India has always been obsessed with the ‘yellow metal’ not only as an investment tool, but also for its significant religious value.
In the last year, though, gold imports by India have declined significantly. Apart from the rising prices of gold, the Government of India’s decision to hike the import duty on gold from 7.5 percent to 12.5 percent in July had its bearing on the gold imports for FY23. Nonetheless, despite a decline in gold imports, India had to import $35.01 billion-worth of gold in FY23. That said, according to recent data, gold continues to rule among Indians despite its high price. Ahead of Akshay Tritiya, figures for March revealed an increase in gold imports of 216.75 percent when compared to March 2022.
Coming to gold as a tool for investment, it is important to understand the asset class better in terms of relationships with other factors, and set the right expectations regarding the risk and expected returns.
A hedge against inflation and equities?
In the Indian context, when we compare gold to CPI inflation numbers in the last 20-25 years, it is evident that while there could be times when periods of high inflation coincided with a rise in gold prices, this may be due to a variety of other reasons and, hence, this relationship between inflation and gold prices may not necessarily be always true.
Source: Gold prices in India from bankbazaar.com and inflation numbers as published by National Statistical Office
Source: Gold prices in India from bankbazaar.com and inflation numbers as published by National Statistical Office
In the above chart, we notice that the inflation numbers were around the range of 4 percent from the year 2000 to 2005, but the price of gold increased from Rs 4,400 in 2000 to Rs 7,000 in 2005. From 2005 up until 2012, we can see a linear increase in the prices of gold when the inflation levels reached 12 percent in 2010 and settled to around 9-10 percent by 2012. This was also a time when the 2008 global financial crisis hit the world economy prompting a lot of capital to move to assets such as gold.
In 2013, we saw a sharp rise in inflation again to over 11 percent levels before cooling to 4-6 percent levels till 2018 — a period during which gold has given flat returns.
When we compare the gold returns to equities, we see that except for one-year timeframes of certain years where there were economic downturns (like 2007 to 2008), we do not see the inverse relationship holding for longer terms.
Source: Gold prices in India from bankbazaar.com and Nifty numbers as per Ace Equity
Source: Gold prices in India from bankbazaar.com and Nifty numbers as per Ace Equity
Hence, it can be concluded that gold might not be a good long-term hedge against inflation or equities, but it can help protect the portfolio in extreme downturns when all other asset classes fall. We also understand from past returns that gold prices are cyclical and generally witness long periods of stagnancy followed by a period where they give high returns. Thus, having gold allocation as a certain percentage of the total portfolio makes sense from the perspective of having asset diversification in an individual’s portfolio.
Gold in the portfolio
The advantage of holding gold in India is that it gives you indirect exposure to hold US dollar assets in your portfolio. A major part of the returns earned on gold as per prices in India is because of rupee depreciation. The returns on gold as per global gold prices since the 1970s are around 3.3 percent, whereas the return in rupee terms over the same period is around 8.8 percent. Hence, rupee depreciation has contributed to around 4-4.5 percent annually to gold returns in India over the last 50 years.
In India, the SGBs (Sovereign Gold Bonds) offer tax-free capital gains to investors on the bonds if held till maturity, while also offering a 2.5 percent interest on the principal amount. Other advantages also include an option to trade the bonds on the stock exchanges to take care of the liquidity aspect. These features make the SGBs an ideal product for investors looking to diversify their portfolio into gold. The Reserve Bank of India (RBI), on behalf of the government, has so far issued 62 tranches and raised about Rs 43,000 crore. The SGBs have been increasingly popular in recent years as investors have grown more comfortable with the simplicity of investing, and the added interest that the SGBs provide.
(Parimal Ade [Twitter: @AdeParimal] is Founder, and Gaurav Jain [Twitter: @gaurav28jain] is Co-Founder, Investyadnya.in)
Disclaimer: The views expressed above are the authors' own. They do not necessarily reflect the views of DH.