While most of us know buying gold is a good idea, we don't know how much and in what form we should buy it. This article is to help provide answers to these questions.
It's that time of the year, when almost every Indian considers investing in the yellow metal. Gold was and continues to be the most stable asset to invest in. It has proven its store value over millennia. While most of us know buying gold is a good idea, we don't know how much and in what form we should buy it. This article is to help provide answers to these questions.
But first, let's allay some misconceptions. While gold is a good asset to own, it is not an alternative to equity and fixed income. One needs to take a portfolio approach and allocate 5-15 percent to gold in their investment portfolio. Among all three asset classes, equity is the riskiest asset and hence is expected to give the highest returns in the portfolio.
Equity helps grow your investment or provide capital appreciation. Fixed income on the other hand offers protection to your investments while providing income in the form of interest. It ensures capital preservation & income generation. However fixed income investments are also not devoid of risk, their value is subject to interest rate risk, inflation risk, credit risk & liquidity risk. Gold is your hedge against these two assets classes.
Aurum, as the ancients called it, has historically proven to be a good hedge against inflation, as its price tends to rise along with the cost of living. Financial experts have witnessed gold not only retain, but also increase in value even as stock markets have crashed around it. This happens mainly because fiat currencies lose most of their purchasing power in times of inflation, which is when experts value gold by basing its price on currency units, ensuring that the cost of acquiring it rises along with inflation.
The commodity also holds its value during a deflation – a period in the economy when prices tend to drop due to excessive debt and economic burden. In fact, even during the Great Depression in the 1930s, experts witnessed the price of gold investments soaring high even as the Dow Jones Industrial Average (DJIA) fell by a quarter of its peak value. This phenomenon is deeply linked to human behavior – in times of a crisis, we tend to hoard money and the value of the metal rises even in dire times.
However, the more prudent investor does not hoard, they invest. Hence the next logical question is how much to invest.
If you are a conservative investor
If your risk appetite is low you would want to minimize volatility in your portfolio. As per Kristal.AI’s advisory algo the following allocation is recommended for an investor who can afford returns between +7 percent and -2 percent.
● 20% in equity
● 65% in fixed income
● 15% in Gold / commodities
If you are a medium risk investor
If you are looking to create a moderate risk portfolio, then the following allocation is recommended, as a reference point. It is suitable for inventors who are comfortable with portfolio returns between +15 percent and -8 percent.
● 40% EQUITY
● 50% in FIXED INCOME
● 10% gold
If you are high risk investor
For investors with a high risk appetite i.e who are comfortable with portfolio returns of +25 percent and -15 percent, the following allocation is suggested by Kristal.AI’s algo.
● 50% in EQUITY
● 45% in FIXED INCOME
● 5% in Gold
It is important to note that the above recommendations are approximations based on the performance of these asset classes in the global markets. Also If one takes into account the age, investment horizon, portfolio size, investing experience of the investor the actual allocation may differ from one investor to another.
How to invest in Gold?
Novice investors, particularly those in India, often equate gold investments with buying physical gold. However, while jewelry is one of the most common ways to invest, it isn’t always the most practical. This is because investors must also pay making charges that range from 6-14 percent of the cost of the metal (and can even go as high as 25 percent if investors want contemporary designs).
These costs are generally irrecoverable, which means that you start your investment journey with a slight deficit in your account from word go. Investing in paper gold, on the other hand, is not only a more profitable option but also a more convenient one.
ETFs are arguably one of the best ways to invest in gold as they eliminate the high costs associated with buying jewelry or gold coins. Known for being cheaper than mutual funds, ETFs make it far easier for young investors to invest in gold. You can also expect greater transparency in pricing, with the investment units mimicking the actual market price of gold.
Gold ETFs offer the following benefits:
● These ETFs are typically more cost-effective than buying physical gold as one does not have to worry about additional costs like making charges.
● These ETFs are traded on an exchange, which means that they are incredibly liquid.
● Investors do not need to hold physical gold in order to grow their wealth, which makes this form of investment incredibly convenient.
● These ETFs do not come with value-added or wealth taxes, helping investors save more money.
● You can find ETFs that align perfectly with your risk appetite and enjoy ROIs based on the same. This makes this form of investment ideal for all types of investors.
Going forward, experts believe the outlook on gold will be driven by two factors. Firstly, if the Federal Reserve continues to allow inflation to run hot while maintaining a dovish stance relative to market expectations, such an environment can be bullish for gold. As long as inflation remains under check (transitory) and the Fed is not forced to hike faster than what’s priced, this is likely to benefit gold.
Secondly, gold has been facing some competition from the cryptocurrency complex, that some investors have started calling digital gold. Both gold and bitcoin at least partially compete for similar investments. Hence, a continued rise in the price of cryptocurrencies and greater degree of adoption of crypto as an asset class, could result in gold losing some of its sheen.
The author, Asheesh Chanda, is Founder and CEO at Kristal.AI. The views expressed are personal
First Published: IST