Gold funds retain sheen, but will they continue to hold up?

Akshaya Tritiya on Monday was a big day for Gold ETFs (exchange-traded funds). Goldman Sachs’ GoldBees, the biggest of them, notched up a turnover of Rs 525 crore. The ETF’s price, however, price fell by 1.15 percent to Rs 2,560. The average daily turnover for the fund is around Rs 13 crore.

World gold prices are falling and that is reflected in Indian gold ETFs, which generally follow London prices. Since 20 March this year, gold has fallen10 percent. But, over the last five years gold ETFs have returned 18 percent annually, compared to 3 percent for the Nifty.

Gold has a negative relationship with equity. In times of crisis, gold as an investment performs better than equity. If we look at rolling returns data for gold and the Nifty for the last four years, gold was in negative return territory 21 times and the Nifty was in negative territory 285 times. The total data set had 1,007 points.

After the world economy went into a tizzy because of the Lehman crisis, gold as an asset class has only grown. Indian gold ETFs are now worth Rs 10,600 crore, far bigger than the index ETFs which hold assets to the extent of Rs 1,500 crore. There are now around 14 schemes that allow Indian investors to participate in gold ETFs. Motilal Oswal has an ETF that allows investors to redeem in physical gold.

As the world economy is showing signs of recovery, there is the possibility of gold funds losing some of their sheen, as money will be directed to equity or fixed income. In fact there are many who believe that gold can even fall further.

A Societe Generale report says that this is clearly the end of the gold era. The report argues that since 2000, gold returns have been much higher compared to the rest of the century and if we look at the one year rolling returns of gold in US dollar, since the end of the Bretton Woods system in 1971, negative returns occurred around 38 percent of the time and large losses occurred 18 percent of the time.

The report further points out that since the global economy is on the road to recovery, this could again be negative for gold. There are five drivers for a positive global economy which include advanced de-leveraging (debt reduction), repair of credit channels and reduced policy uncertainty.

But all is still not well with Europe, with countries like Spain and Italy showing prolonged periods of political uncertainty. Inflation is still a worry.

So should one keep buying gold as prices go down?

Since gold has a very strong negative relationship with equity markets, it probably makes sense to have some 5-10 percent in gold ETFs or other investment products as a hedge. Since the world economy is not out of the woods yet, it probably makes sense to hold a little gold- but not as jewellery.

Incidentally, Indians and Chinese account for more than 70 percent of the gold jewellery market across the world and that is not exactly a good thing.