For thousands of years, gold and has been a popular investment choice for the wealthy. The reasons are obvious, beginning with the lovely colour and glow of the metal, the ease with which it can be worked into countless shapes and its resistance to chemical reactions.
Historically, too, gold has played a major role in global finance, particularly in the early 20th century. However, does gold continue to make sense as an investment option in our world of deep capital markets and sophisticated financial products?
The obvious disadvantage of gold as an investment is that it doesn't provide any income in the form of interest or dividends. Furthermore, if you invest in gold in its physical form, you have to worry about its purity as well as about keeping it secure.
So, why gold?
1. One of the traditional strengths of gold is that it has always been a hedge against inflation. Gold has done a remarkably good job of beating inflation for, literally, centuries. Today, however, you also have other products like stocks which have also consistently beaten inflation and earned a higher return than gold in the long run.
2. Another argument for gold is that it helps diversify your portfolio (in simple terms, this means not putting all your financial eggs in one basket). This is because the price of gold depends on demand and supply conditions in the world markets that may move differently from financial assets in India like say real estate.
For instance, the supply of gold depends on mining conditions in major gold-producing countries like South Africa as well as the selling decisions of central banks who own huge stocks of gold. The demand for gold is partly determined by its use in different industries like electronics, jewellery making and other industrial applications.
Therefore, gold tends to move differently from other financial assets and it may hold its value even when other assets are performing poorly. Thus, an investment portfolio may earn smoother returns if some of it is invested in gold.
3. Perhaps the best argument for gold is that it is a good investment in times of severe crisis: like a massive war or a major breakdown of public order. In such a situation, the economy would naturally suffer along with most regular investment products like stocks and mutual funds. The value of the currency would also likely fall. In the ensuing panic, the price of gold would probably increase sharply as people flee to the age-old store of value.
Now, this kind of systematic breakdown is highly unlikely in a relatively stable country like India. However, some investors believe that having a small proportion of your assets in gold is a reasonable form of insurance against such an eventuality.
How should you do it?
The most obvious form is jewellery, though purely as a financial investment this has a few disadvantages: you have to pay the cost of craftsmanship in addition to the gold and jewellery may not be as liquid (easily convertible into ready cash) as more standard forms of gold if you wish to sell it. Of course, jewellery has ornamental and sentimental value which may overcome these disadvantages.
Purely from the investment perspective, gold coins and bars are probably the best way of investing in physical gold. These can now be obtained at banks and come with an 'assay certification' which indicates that they meet the international standard of purity.
For example, ICICI has a Pure Gold programme which sells gold in the form of coins and bars. The coins are available in weights of 2.5, 5 and 8 grams and bars in weights of 20 and 50 grams. The gold is 24 carat (the purest form available) and is imported from Switzerland. Its price is based on world market prices.
Another gold-related investment scheme is the Gold Deposit Scheme which allows you to earn interest income on the gold that you already own.
For instance, with the Corporation Bank's Corp Gold Deposit Scheme, you can deposit gold in the form of scrap, that is, gold in the form of jewellery, ornament or gold bars, with a minimum weight of 250 grams. The deposit has a maturity of three to seven years and you earn an interest rate which depends on the maturity. The minimum interest paid on these gold deposits is 1.35 per cent per annum; the maximum 1.5 per cent. You can redeem your deposit either in gold or rupees. What's more, there is no income tax on the interest earned and no wealth tax on the gold deposited.
Finally, gold exchange-traded funds are now available in India. These are like mutual funds except that their value depends on the price of gold. Two asset management companies, UTI and Benchmark, have already launched such funds. In terms of convenience and liquidity, this may be the best way to invest in gold.