January 30 , 2013
Gold has a special place in Indian households. Almost each one has at least a little of it. The old catchphrase 'no gold, no wedding' captures the essence of our traditional affinity for gold. Households accumulate it to display their wealth and pass on wealth to the next generation. In fact knowingly or unknowingly we have been doing the right thing. Gold is an asset that cannot be sidelined in building an investment portfolio that can stay afloat inflation in the longer term.
Pattern of investment returns
Have you ever looked at how various asset classes perform with respect to inflation in the long term, say 10-15 years? There is a pattern to it. Income assets like Fixed Deposits, Bonds and Debt Mutual Funds give returns lesser than the inflation rate in that period. Whereas growth assets like Equities, Real Estate and Gold tend to stay a notch above it. In the short term of 1-3 years various factors that are at play may lead to some of the income assets giving higher returns than some of the growth assets but it normalizes over longer periods. Equities give highest return over longer term of 15-20 years, followed by real estate and gold.
This implies an investment portfolio should have a balanced mix of growth assets and income assets to help meet your needs coming up in the long term as well as short term.
Why you should invest in gold
1. Although times have changed and hardly anyone thinks of gold as money, it is gold that actually gives value to paper currency. Central banks hold gold reserves to back the currencies they supply. Gold is a store of value.
2. Historically gold prices have stayed a small rank over inflation. Inflation ensures that in the long term, flow of money proceeds to move from the most liquid growth asset to the others in order of liquidity. In this sequence gold comes first followed by equities and real estate. When there is turbulence in the economy, investors tend to shy away from other equities and prefer gold since it is considered a safe haven. This is what we are witnessing at the moment. The reverse is true when there is economic stability.
3. Another reason why your portfolio should hold gold is for diversification. If your entire investment portfolio consists of just one asset class like debt (bonds, FDs) or equities, you risk losing out should that asset class perform badly for some reason in a given period. Different set of factors affect demand for gold so its price movement is independent of the factors that affect movement of equities or bonds. Gold price has negative correlation with other assets.
There are more strong reasons to include gold in your investment kitty. Like you systematically save and invest in debt and equity products you can regularly invest in small quantities of gold through structured products like gold ETFs and Gold mutual funds. With the benefit of being Indians, for most of us however, the question how much gold to have in the investment portfolio is more relevant than whether or not to have gold in the portfolio. Find this in a separate articles.