The Metal The World Loves!

Gold has a long history of being a favourite investment, a store of value from time immemorial. It is seen as a good hedge against inflation. It is a rare metal, available in limited quantities which ensures that it retains a certain value always.  

Gold is used to a great extent in jewellery and ornaments and is a great favourite among women, especially in Asia. Gold also has industrial uses, though limited. Central banks also buy and store Gold as a part of their investment reserves.

Gold has been fairly steady as a store of value over time, though it has not given eye-popping returns. But it has also not debased like fiat currencies, which has, due to excess money printing.

Gold has not been an asset that investment advisors the world over would have recommended, except as a diversifier and to mitigate the risk in the portfolio. Gold typically has an inverse/ low correlation with stock markets, dollar strength, interest rates etc.  When the economy is down, the risk perception is high or when there are geopolitical challenges, Gold is sought as a safe haven asset (previously, it used to flow into dollar denominated assets, but that could now change).

What is happening in the US

There are several things happening at the same time in the US. 

US economy is not doing too well as of now. The inflation is at around 5% and has been sticky this time despite Federal Reserve’s actions to tame inflation by increasing rates. High interest rates will affect businesses and impact profitability. 

But the rate hikes are not without consequences. Banks got into trouble due to the rate hikes as banks holding US treasuries, notes and bonds have Mark to Market losses on their portfolios. This was flagged as a problem and there was a run on the bank due to panic withdrawals. The shorter term securities were not enough and the banks had to book losses on the longer term bonds. This asset liability mismatch led to some bank failures. As per the experts in US, many more banks may face the same fate. See this.

The other factor is that while bank savings accounts are offering less than 2% pa returns, US Treasuries that are giving over 5% pa returns!  It makes perfect sense to move money from the banks to a safe haven asset like US Treasuries and earn far more! This means that more money will move away from the banks causing stress.

There is stress on Commercial real estate too. Vacancies in this sector across the US are about 20%. The commercial real estate values are expected to steeply correct, making refinancing difficult and potential for defaults increase. See this and this.

Unemployment seems to be low now; but this may change due to high interest rates & inflation. Already the high inflation is affecting US consumers adversely and more and more of them are using Buy Now Pay Later (BNPL) apps for Food and Groceries. See this.

All the aforementioned problems have started affecting the profits of corporate America which has shown a dip of late. If this continues, it will again affect employment.

The debt ceiling set for borrowing by US Govt is about to be breached. They need to approve a higher ceiling – but there is political wrangling now about it. This should mostly get resolved (though by one estimate, there is a 3% chance that it may not). If they raise the debt ceiling, the yields will probably go higher, especially since the appetite for US Treasuries among central banks has started cooling off.

US is expected to go into a recession due to all these factors. An inverted yield curve, where the yields in the short term are higher and long term are lower, shows lack of confidence in the long term. This typically signals a recession. See this.

The more important megatrend is the changing world order where the pre-eminence of the west is being challenged. Dollar as a reserve currency would also be called into question a lot more as we go along. Dedollarisation has already started and it will have a significant effect on the global currencies, gold as well as other assets.

Another currency is not necessarily needed to replace the dollar.  Most people go wrong here thinking there is no currency that can do that. That is true. Dedollarisation will happen differently.

Trade can happen bilaterally in their currencies or in third currencies between countries without involving the dollar. This has already started happening.

Many countries are exploring the option of Gold backed currencies, where excess currency accumulation can be swapped for Gold. This may take some time but is expected to emerge.

Also, even with the US, there are some states like Texas which are looking at digital currencies backed by Gold as US is bringing in a Central Bank Digital Currency (CBDC). See this. CBDC, it is feared, will give too much visibility about what consumers are doing and give too much control to the government. See this – CBDC is a dangerous tool and portfolio changes suggested. 

Due to all these factors, some money invested in the US is expected to move out into other assets, in other geographies and currencies. Money will probably flow into Gold, precious metals, select commodities, real estate of all types globally and equities, among others. Gold is well poised to receive the flow. 

Gold as a good investment destination

Gold has already started appreciating in the last several months. Due to the uncertainty, Gold has started gaining traction as a safe haven asset in the midst of inflation, economic and political uncertainty, banking crisis, possibility of debasement of dollar due to excess printing, a looming recession etc.

Globally, the consumption of Gold in 2022 was at a decade high at 4755 MT. Gold mining in 2022 accounted for 3612 MT and recycling of gold was about 1144 MT. Central banks bought Gold in record quantities in 2022 – they bought 1,136 MT of Gold which is an all-time high. Read about Gold demand trends in 2022.

Gold is the only precious metal of significant value in the world. The amount of Gold in the world is estimated to be 205,000 MT valued at USD 13.5 Trillion. 

The industrial uses of Gold are rather small and accounts for about 10%. Investment and Jewellery are the main areas where Gold mostly gets used. 

In the current year, till now, Gold consumption has not caught up; in fact, it has come down 13% globally in the JFM Quarter 2023. However, central banks have bought 228 MT of gold in this quarter, which is a 176% increase over the same quarter last year.  

When the interest rates are high and the rates may rise further, money may not move to Gold. But, interest rates will correct in due course for the economy to recover. Also, various other factors like continuing geo political tensions, economic recession, debasement of dollar, bank crisis etc. along with a reduction in interest rates in the US, may make Gold as an attractive investment destination. Gold price will go up due to different cues…

In many countries in the world, economies are not doing well, inflation is high and currency is losing value. This is happening now and gold fits in well here. 

In places like China, people used to invest in Real Estate and Gold. Now that Real Estate market has collapsed in China, banks are failing and financial markets are not well developed, gold will become a default investment option, which is a tailwind for Gold.

Investing in Gold

There is a case for investing in gold now. One can invest in gold through multiple means. 

Many think buying gold jewellery itself is investing in gold. This is not true as one spends a lot of money in making charges, Gold purity of the ornament can be called into question while selling, resulting in poor realisation. Also, ornaments are seldom sold. Hence, jewellery is more a consumption item than an investment.

Investing in Bullion in the form of coins or bars may be a better idea. Even here, one may end up paying between 10-15% premium to the quoted bullion prices when coins or bars are bought. Then one needs to store it ( maybe in a bank locker ) & insure it which means that there are costs involved. 

Taxation for Bullion is as capital gains. Short-term Capital gains ( upto 36 months after investment ) are as per the slab rates and Long-term capital gains are 20% after indexation. Bullion is a better option than jewellery, but still may not be the best option.

Government of India (GOI) has come out with Sovereign Gold Bonds (SGB) that have an eight-year tenure, tracks the price of Gold and the value at the end of the tenure is tax-free. It also offers 2.5% pa returns biannually, like a FD, which is like the icing on the cake. This is one of the best options to buy gold.

However, this is not available for subscription always. GOI comes with these tranches from time to time. One can buy or sell in the secondary market. Also, SGB does not have any Gold backing it.

The other option is either Gold ETF or Gold Funds, both of which come from MF houses. The liquidity in case of Gold Funds is guaranteed by the MF House at the prevailing NAV, which is a positive. Price discovery is clearly there. Also, the investments are backed 100% by Gold holdings. The negative is that this is taxable as income and fund management fee would be there. Gold ETF is similar except for the fact that to sell the units, there needs to be a buyer ( like in case of equities ).

It looks like we have reached the point where Gold has become a good investment option due to a confluence of factors discussed above. Investing in Gold with a long-term orientation looks like a good option to consider at this point. 

Investing between 5-10% of the overall wealth is generally suggested in a portfolio. How much to invest in Gold should be decided after careful consideration of one’s overall situation. But, the golden period for Gold has probably started!

Disclaimer – This article is an educational piece which brings out why Gold is a good asset to consider at this point, given all that is happening in the world today. Anything in this piece is not to be construed as advice. You need to get it from a SEBI Registered Investment Adviser (RIA). 

Disclosure – I (along with my family) have already invested in Gold both through Sovereign Gold Bonds and Gold Funds in my portfolio.

Authored by Suresh Sadagopan, MD & Principal Officer, Ladder7 Wealth Planners. P. Ltd