Investors should use correction to build exposure to gold

Investors should use correction to build exposure to gold: Analysts

Gold closed at Rs 46,339 per 10 grams on Monday. Its one-year return is currently minus 17.1 per cent. If one examines the one-year return rolled daily over the past 15 years, the lowest one-year return was minus 17.6 per cent on November 14, 2014. Gold is almost at par with that mark.

Investor sentiment towards an asset class tends to be affected by past returns. With returns appearing bleak, should you avoid the yellow metal, or make a contrarian bet?

The question assumes immediate significance for investors planning to invest in the fifth tranche of sovereign gold bonds, open for subscription till August 13.
Improved sentiment negative for gold

After touching a peak of Rs 55,922 per 10 grams on August 7, 2020, gold began to correct. Once vaccines became available, uncertainty diminished and economic optimism rose. Massive fiscal and monetary stimulus by governments and central banks fuelled the recovery.

“The need for a safe-haven asset declined as growth returned and confidence improved, so gold took a beating,” says Kishore Narne, head–commodity and currency, Motilal Oswal Financial Services. The recovery of the US economy – the prime mover of gold prices – has been strong.

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In such an environment, risky assets like equities became more attractive and investment flows moved from gold to equities. Phenomenal returns by these assets led to more flows. Over the past year, the Nifty50 has given a return of 44.9 per cent, the Nifty Midcap 150 Index has yielded 73.4 per cent, and the Nifty Smallcap 250 has given a 99.4-per cent return.

Can gold’s prospects improve?

One factor that could revive the yellow metal’s fortune is inflation.

“It could pose a problem over the next 18 months or so. Though central banks will try to control it, they are likely to fall behind the curve. If inflationary pressure is strong, there could be currency depreciation and gold would receive fresh impetus,” says Narne.

Investors should also keep a close eye on economic data in the developed world, especially the US.

“If growth falters and it leads to more action by central banks, gold’s prospects could improve,” says Chirag Mehta, senior fund manager-alternative investments, Quantum Mutual Fund.

The Finance Ministry has released Rs 9,871 crore as a grant to 17 states.

As for whether there are any signs that US economic growth could falter, Mehta says: “The economic data of late has been a mixed bag. Consumption, which has been the primary driver of recovery, has been fuelled by government handouts. Once they stop, the sustainability of recovery will get tested.”

The dollar may weaken over the long term. The US government’s fiscal deficit is expected to remain elevated for a long time, and that would lead to currency weakness. A weak dollar is positive for the yellow metal.

What you should do investors need to hedge for the risk that growth could falter or inflationary pressure could be strong. Gold can provide that hedge. Experts say gold is undervalued currently.

“If you look at the long-term graph of money supply versus gold, it shows that gold is undervalued today,” says Mehta.

As the money supply increases, the paper currency gets debased. Gold is a monetary asset that can’t be debased. So, an increase in the money supply should be accompanied by an increase in the price of gold, which has not happened.

Investors who don’t have at least a 10-15 per cent allocation to gold in their portfolio should use the current correction to build this allocation. According to Kedia, any investor entering gold now should do so with at least a three-year horizon.