Gold is not bold anymore

Gold has already been run up for a decade now, since gold prophets prone to think that gold’s euphoria will resume soon. In India, investing in gold is either an emotionally or an act of faith that gold would never fall in the long-run and stay intact. This is because gold rises on myth and falls on reality.  In the past one year, gold prices breached Rs30,000 level for 10 grams of gold. At the consumer level, prices above Rs30,000 may deter purchases. Though the level of gold prices are set to range from Rs 29,000 to Rs 31,000, the low demand will be likely to impact Akshaya Tritya, a day many consider auspicious to buy gold. The safe haven investment in gold is, now turning into a nightmare. Despite the knowing the fact about mayhem gold prices, many believers are still pouring their hard-core savings into gold kitty schemes, buying physical gold and investing in gold ETFs. The reason is simple. Historical gold prices were supposed to go higher and higher, gold prices would ordain to rise in future because global monetary easing by central banks would lead to high inflation, even hyperinflation and much higher gold prices. Perhaps, people still have enough reason to believe in gold because of the ‘greater fool theory’; the next guy will buy it off me at a higher price. Unfortunately, hidden speculation across the world made gold even more vulnerable to crash, compared to other market-linked products. For gold, such sudden moves can be even more pronounced because nobody really knows the value of gold at any time.

Paradox value of Gold

We have normal techniques of analyzing investments, such as price-to-earnings ratios used to determine the value of stocks, yield to determine the value of propriety or bonds etc. For instance, when we buy a stock, we own a part of business. The business may produce goods or provide services to consumers. A good business would generate profits and these profits get translated into returns for the shareholders. And this process would be repeated year after year as long as the company remains profitable. Likewise, if you invest in real estate you can get rent. If you put your money in a fixed deposit, you get interest. If you invest in mutual funds, you get a return or a dividend. Unfortunately gold is a pure dogma in which you cannot value it logically. Since there is no analytical way to value an asset that doesn’t produce cash flow, gold does not generate any return of its own; it does not pay dividends or produce any income for your gold nor does any of other things that one uses to arrive at the intrinsic worth of an investment. It can only be new buyers. That’s the hallmark of speculative product, not an investment product.  Therefore, gold is simply valued by demand and supply i.e. the buyer and seller negotiate how much is a fair price for the metal. To put it simply, gold does not have any fundamentals through which one can arrive at its fair value or even determine whether it is overvalued or undervalued.

Not a hedge against inflation

An inflation hedge is defined as basically an investment that’s expected to increase its value over a specific period of time. It measures the fall in money’s purchasing power. Over the decade, investing in the gold is supposed to be hedged against inflation and some sort of imagined financial contingencies. For instance, if the prices rise by 10% per year, then the price of gold should also rise by roughly 10% per year, over a period of time. However prevailing gold prices have been slipping away from current inflation rate. They have, thus left little correlation with inflation. Falling gold prices have no more power to compete with inflation. Hence, the perception of gold being a hedge against inflation has been downgraded and there is not a good relationship between gold and inflation. Yet the gold lovers have hypothetical faith that gold will protect them during inflation. Unfortunately, many of these arguments do not stand the test of logic. They are living in myths. Though there aren’t any good inflation hedges in the short term. But over the long term, equity is emerging as good inflation hedge.

Unsafe haven during times of financial crisis

As said, if gold is your hedge against inflation, it is also supposed to buy for keeping reserve during the financial crisis. Gold is supposed to go up under exactly the opposite circumstances. The fact is: being an emotional attachment with gold, people don’t sell their holdings of gold to raise cash during real panic. During past economic weakness, people didn’t switch to their gold as a means of exchange when things got bad. Instead, they had started to accumulate their more holdings of gold for hoarding purpose. In fact, it appears that if there is financial panic, it is supposed to be another reason for gold to go up sharply. This was, of course, a great irony is that people did not sell gold to meet their financing needs. Hence gold was destroyed as a safe-haven proved to be unsafe and it wasn’t used as a means of exchange because gold is not something people need on a day to day basis. If you want to “hedge” against some sort of imagined financial panic based on a very negative view of the future, don’t use gold as that hedge. Instead, create separate an emergency fund in liquid form while keeping in some part of cash and other debt instruments. Become as self-sufficient as you can. These things will help you whether “financial crisis” happens or not. If you want to buy gold as a small part of your consumption such as children’s wedding purpose, that’s great. My wife and I have considered buying a few gold coins to keep in our safe for that very purpose. But if you are buying gold out of fear of hyperinflation or financial panic, you are buying into marketing that is not borne out by the facts of history. Thus, gold prices seem to be more volatile with fear in the equity market than with the concerns in the bond market. Invest your money elsewhere, preferably in things that make you more self-sufficient.

What should you be done?

Certainly, you should buy gold jewellery as an item of pleasure or to gift, not for an investment purposes. If you invest in gold, you cannot create a passive income and could not be expecting a long-term rise. This is because we barely know that cause a long-term rise in gold, far knowing when those conditions have changed. It may be worth trading in gold, if you have a sense of when to buy and sell. We do suggest to our clients not having more than 5-10% of one’s net worth should be in gold as insurance.  Since many Indians already have that much gold. Possible, any investment in gold more than that is pure speculation on untested economic, monetary and financial theories. If you are still tempted to invest in gold ask yourself, what is the fair price of gold at any time; how would you know it, when will you sell it and why?

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