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Why gold is auspicious even for your portfolio

If monetary policies start to normalise and balance- sheets unwind, financial conditions could tighten pushing up volatility

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Why gold is auspicious even for your portfolio
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In India, gold has always been treated more as a savings asset rather than an investment asset given its strong cultural linkage. Gold buying is highly concentrated towards jewelery given its role in marriages. While financial inclusion has picked up in recent years and diverted savings to other financial assets, gold is still considered a priority by a large section of the population. As the festive season approaches, gold buying will once again pick up in India and Dussehra is considered to be among the most auspicious period to buy gold. We believe that gold warrants more attention as an investment asset in India and the current global backdrop offers enough reasons to keep gold part of your investment portfolio. While it may not offer interest like bonds and dividends like equities, it surely acts as an insurance against unforeseen global risks and currency market volatility.

Why we like gold?

Volatility can surprise on the upside: For most part of this year, we have seen volatility languishing near lows implying that global investors remain complacent. In the US, the CBOE VIX is at the lower end of its historical range. US equity market uncertainty index also remains lower barring the occasional spikes. Part of this can be attributed to the fact that growth momentum has picked up globally which has led investors to underestimate downside risks.

Global financial markets have also showed surprising resilience to some major shocks in the past year like the Trump victory, Brexit vote and the geo-political fears owing to North Korea. Secondly, since monetary conditions remain accommodative globally, there hasn’t been a trigger big enough to create panic among investors. However, if monetary policies start to normalize and central bank balance sheets unwind, financial conditions could tighten quickly and unexpectedly which could push volatility higher. Historical data suggest that gold performs well during heightened global volatility and hence any spike in volatility will be beneficial for gold.

Geo-political risks need to be factored: The reaction of global markets to the standoff between US and North Korea this month provides a hint of what could ensue if the geo-political environment deteriorates. While the reaction of global markets has been limited for the most part, there needs to be geo-political risk premium built into assets like gold. The geo-political conundrum is not limited to North Korea only. There has been increasing friction between US-Russia and US-Iran after new sanctions were imposed by the US this year. While we do not believe that geo-political risks will blow out, gold needs to be a part of any investor’s portfolio to hedge against any unforeseen geo-political event. In the current environment, heightened geo-political risk will prevent any major declines in gold price even if other factors turn unfavourable. A geo-political escalation on the other hand could provide significant upside potential for safe havens like gold.

Low Inflation concerns still linger: Low inflation remains a challenge globally with all major economies like US, euro zone and Japan struggling to lift inflation despite years of monetary easing. Inflation has changed structurally and low oil prices have further softened inflationary pressures in India and around the globe. This means that the pace of rate hikes by the Fed and other Central bankers will be much slower than what was feared at the start of this year. The Fed in its last meeting lowered its inflation forecast and suggested that it sees long run interest rates at 2.75% which implies that the pace of future rate hikes will be gradual. A slower pace of Fed rate hikes is positive for gold as it will prevent excessive dollar strength. Secondly, rate hikes are factored into gold prices to a large extent and the current trajectory of hikes will not deter gold prices meaningfully.

Considering the above factors, it will be prudent that consumers in India not look at gold from a traditional (jewellery) perspective but consider it as an investment asset as well. In India, Gold also tends to outperform global prices when the rupee is depreciating and provides investors with a hedge against domestic inflation as well. In that regard, we remain constructive on gold and the current price rally could extend towards $1380-1400 in the medium term. In the domestic markets, Rs 28,000-28,200 will remain a strong floor for prices and prices could eventually head towards Rs 30,500-30,800. The auspicious period of Dussehra may therefore provide perfect timing to add it in your portfolio.

SPENDING WISE

  • If monetary policies start to normalise and balance- sheets unwind, financial conditions could tighten pushing up volatility
     
  • Gold performs well during heightened global volatility, hence, any spike in volatility will benefit the yellow metal
     
  • Gold needs to be a part of any investor’s portfolio to hedge against any unforeseen geo-political event
     
  • Heightened geopolitical risk will prevent any major declines

The writer is commodities analyst (precious metal), Motilal Oswal Commodities

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