Is Gold Really an Investment?

Is Gold Really an Investment?

India is in love with Gold. Indians have been making huge purchases of gold jewellery since long. The buying spree has increased in the recent past with marketing teams of jewelers and banks working overtime to popularize festivals and social events like Akshaya Trithiya, Dhashera, Karva Chauth, Raksha Bandhan and Dhanteras into gold purchasing events. The amount of Gold in Indian households is close to 15,000MT which is valued at a whooping Rs 17, 06,190 Crores today! (31^st March 2008 rates)

Why did you buy gold?

This question was asked to 252 people, after they came out of jewel shops, in different Indian cities. The results are summarized below:

I am happy with the 5% who said they are considering it an investment. Atleast they are slightly more evolved than the others.

Do I see, eye-brows rising? That is good. That only means you have taken one of the other reasons to buy gold. Does that mean all the other purposes for buying gold are wrong? No. Some of the other reasons can also be accepted:

1. The people giving gifts are purchasing out of love. I believe there is no value for love.

2. The parents buying gold for their children’s marriage next month are also justified. Though whether you need to give gold as dowry for your daughter is itself a social issue worth a debate.

The worst reasons for buying gold are the other two. I feel pity for them, as they have committed a financial blunder. And that is a whole 50% of the buyers.

Is Gold an Investment?

Let’s settle this first before progressing further. Gold has a lot of emotional value. But an investment, it is not. Let me make use of historical data to prove this to you.

We know that inflation is causing prices to increase for all day-to-day goods. The rate of inflation can be tracked using the Cost Inflation Index declared by the Income Tax department every year. This tool is used by the department to allow tax indexation benefits on Long Term Capital Gains. Hence this index is ideal for benchmarking investments. The table below compares the price of gold with the inflation index.

TABLE 1

Now you tell me whether gold is a great investment. Would you call something giving you just 0.80% over inflation an investment at all?

And we have not even considered that 15% to 25% making and wastage charges that our friendly jewelers will charge on the purchase.

Is It Wrong To Put Money In Gold?

Not really. Gold has its uses, if kept as pure coins and bars:

# It has high liquidity. It might take you a maximum of half hour to convert it to cash.

# It is easy to procure (again half an hour) and protect (a bank locker will do) compared to other commodities.

But it is not a commodity which will give you returns. Hence it should be used to do what it is good at, a hedge against inflation. Timothy Green, a well-known gold expert, reminds us of a historical truth: ‘The great strength of gold throughout history has not been that you make money by holding it, but rather you do not lose. That ought to remain its best credential’.

A research study on gold established a remarkable consistency in the purchasing power of gold over four centuries. Its purchasing power in the mid-twentieth century was found to be nearly the same as in the middle of the seventeenth century.

Let investment grade (pure gold coins and bars) gold not be more than 5 to 10% of your financial investment portfolio, as a cushion to manage inflation and emergencies. Count gold jewels as expenses not as savings or investments.

What about My Daughter’s Marriage?

There are a lot of well meaning parents who are of the practice of buying small gold coins and trinkets every month / every year for use in their daughter’s marriage. They do this in the earnest effort to build up a sufficient kitty of gold which can be made into jewels at the time of marriage 21 years hence (may be longer or shorter based on when they start). But their effort is in vain.

We have seen from the table above that, this is not going to be fruitful. Is there an alternate approach? Yes there is. Finerva recommends the following approach, which can be explained better using a table:

TABLE 2

Can you see the logic now? If you had invested on the companies in Sensex (an Index Fund would have done the job on your behalf), sold it about a month before your daughter’s marriage and bought gold with it, you would have an amazing 20.88 TIMES MORE gold. Yes, that it not a percentage. It is 20.88 times more.

This is in spite of repeated stock market scams, world level terrorism, change of governments and policies, oil selling at $126 a barrel, weather wrecking havoc across the globe, and economic turmoil in different parts of the world, including India.

I can see your smirks. You think the stock market is a gamble? No it is not, for the long term investor. In fact, the reason I chose the sensex for this presentation and not any particular stock, is to overcome this objection.

Conclusion

We love gold. But it is a financial infatuation. Let this false feeling not be an impediment / hindrance to achieve a real and necessary financial freedom.

In one way by buying gold we are limiting our economic progress, as money which could be invested for development of the nation, the society and ourselves is locked up in our houses and lockers and on ourselves as jewellery.

Treat gold as a portfolio component to match inflation. It will serve you at its best that way. And if you truly love your children / friend /spouse do not buy gold coins and jewellery, rather buy them an Index Fund for the same value.

J.Karthikeyan, BE, MBA, CFP is the one of the Founders and Director – Research & Consulting of Finerva Financial Solutions Pvt Ltd. He has 10 years work experience out of which 5 are in the financial services field. He brings to finance his sharp analysis skills as an engineer.

He aggressively seeks and shares knowledge. He is a Visiting Faculty at Anna University, Bharathiar University and GRG School of Management, where he handles Finance Papers for Full Time MBA students. He also designs and conducts training programs for companies and institutions like Cognizant Technology Solutions, AGS Infotech, Magna Castings, INS Agrani. He also delivers the Financial Training for the Transformation Workshop – Science of Practical Living. He is the key designer of the Certificate Programs on Financial Markets and Financial Services conducted by Finerva. He has over 5000 hours of training experience.

In his articles and training, he brings along a light hearted and simplified approach to the otherwise complex world of Personal Finance.

The views expressed in the article are the author's and of www.finerva.com

Reference:

1. Is gold a golden investment?, N. J. Yasaswy & S.P. Prabhu

2. Growing the Branded Jewellery Market: An Indian Experience - Harish Bhat, Chief Operating Officer, Tanishq, The LBMA Precious Metals Conference 2004, Shanghai
3. Gems & Jewellery, Indian Brand Equity Foundation’s website

4. http://en.wikipedia.org/wiki/Economic_history_of_India

5. www.bseindia.com

6. http://www.finfacts.ie/Private/curency/goldmarketprice.htm

7. http://www.exchange-rates.org/history/INR/USD/T

8. http://www.gold-eagle.com/editorials_02/mehta052702.html

9. Science of Practical Living is joint initiative of Finerva Financial Solutions Pvt Ltd and Thought Ignite Foundation