Should the yellow metal be a part of your portfolio?

Portfolio diversification is commonly toggled between equity and debt asset classes, while, most of them ignore the diversification benefits that gold investment can bring to your portfolio. Though most of the gold investment options may not be able to generate regular income, but it can reduce volatility and optimize long term returns.

It has been witnessed that Gold has an inverse relationship with other asset classes – equity and debt, hence it can be seen that the price of the gold is higher when the stock markets are falling or real interest rates are low. The key reason being that most people consider gold as a safe haven during the uncertain times, even if the returns are lower than equity.

Thus, gold is mostly termed as more a hedging instrument than an investment. Nevertheless, Gold has now become a convenient way of investments, without the need to purchase in physical form.

Why invest in Gold?

Gold is the metal that symbolizes the richness and a must in rituals. Be it any form physical or electronic, every individual wishes to own gold. This yellow metal serves various purposes such as wearable for occasions, interest earned in banks, beats inflation, can be sold in cases of emergency, one can avail a loan against the gold, diversifies your portfolio, and an instrument used to hedge in the uncertain environments. The biggest reason of investments in gold is that it never falls off demand and due to which it has a slow appreciation in value.

Gold can be invested in various ways:

Gold Exchange Traded Funds – Gold ETFs offer liquidity as they are traded on the stock exchange. In gold ETF, the expense ratio is lower as compared to gold mutual funds, but brokerage and taxes need to be paid. Just like stocks, gold ETFs have the same trading strategy to buy at low and sell at high. This investment should be looked upon for duration short- medium term, as long term returns could be low as 10%. This gold will keep your portfolio, robust and ensure stable returns. Gold ETF could act as a loan collateral, if you’re in need of finance.

Gold Sovereign Bonds – the Gold Sovereign bonds are issued by the Reserve bank of India in multiples of grams from time to time with the basic unit of 1 gram. For individual the maximum limit to subscribe the bond is 4KG, HUF is also 4KG while for trust and a few entities it is 20KG. For a Joint holder, the first applicant has the 4KG limit to subscribe. Gold bonds provide fixed interest rate of 2.5% per annum that is payable semi-annually on the nominal value. These bonds are purchased with cash at the issue price and can be redeemed in cash on the maturity date. Nearly 40 tranches have been issued since the date of launch, sourced from the Reserve bank of India. 8 years is the tenor of the bond, while the exit is possible after 5th year exercised on the interest payment dates.

Gold Mutual Funds – investments in gold mutual funds have the underline asset Gold ETFs. They are open-ended funds that are based on the units provided by the Gold ETFs. The SIP (Systematic Investment Plan) route of investment in Gold Mutual Funds enables investors to increase their portfolio in duration, where it is not possible in Gold ETFs.

Physical Gold – Physical gold could be purchased in any form such as Jewelry, Bars, coins and many more. Most of the Indian household has a tradition to purchase, store gold and viewed during occasions. But, as the other form of gold investments have come to effect, there is very less demand noticed in physical gold purchases.

E-gold – E-gold is a digital form of gold, that can be purchased and stored in your gold wallet. Each gram of gold purchased is backed by actual physical gold that means the underlying value is 24K pure gold. This form of investment sets you free from physical storage issues and its aligned charges. E-gold have flexibility in purchasing and selling as that can be done anytime. They are cost effective and have no recurring expenses on them.

Gold Monetization Scheme – This scheme keeps the idle gold with them, where in return you earn interest, there is safety to your gold and much more benefits. Gold kept in the locker includes a few charges, but GMS enables you to earn interest on gold at 2.25% for medium term and 2.50% for the long term. The earnings earned are exempt from taxes and there is no wealth tax, capital gains or income tax implied on the gold. Even when the gold appreciates there is no capital gain taxed on the value of gold deposited or on interest earned. When required the purity of gold is checked and assessed in front of you.

Comparison of Gold Investment Options -
Transaction Charges Jewellery Gold Bars Gold ETFs Sovereign Gold Bonds
Purchase Making charges of 15-20% 10-20% markup charges by banks Brokerage of ~0.5% to be paid Nil
Sell 10-20% is lost due to purity issues Banks do not take it back, so premium paid at a time of purchase is written off Brokerage of ~0.5% to be paid Traded and listed on exchange, post 5 years exit option at that day’s gold market price
Maintenance/ Storage Insurance charges and locker charges (if you put in locker) Insurance charges and locker charges (if you put in locker) ~0.5-1% (Expense ratio) No charges plus additional 2.50% interest paid semi-annually
Tax implications Long term capital gain with 20% indexation benefits (after 3 years) Long term capital gain with 20% indexation benefits (after 3 years) Long term capital gain with 20% indexation benefits (after 3 years) Bond sold <3 years = capital gain taxes @Marginal Tax rate; Bond sold > = 3 years = capital gains taxed @20% with indexation; Maturity of Bond at 8 years = NO CAPITAL TAX APPLICABLE for Individual Client
What are Karats?

Karats are nothing but the unit of gold purity it holds. There are various units, but the highest value is 24k i.e. 24 karat gold. As gold is a soft metal, in order to make a solid object like jewelry, the percentage of other metal has to be added to get it in shape. Each karat indicates 1/24th of the whole.

24K = 24/24 =100% gold; actual 99.95% gold, 0.05% is other precious metal
22K = 22/24 = 0.916 i.e. 91.66% actual gold, 8.33% is other precious metal
18K = 18/24 = 0.75 i.e. 75% actual gold, 25% are other precious metal
14K = 14/24 = 0.583 i.e. 58.33% actual gold, 41.66% are other precious metal
Here, 0.999, 0.916, 0.72 and 0.583 are termed as hallmarks.

Performance of Gold:

Gold has been performing well, if you look at the above chart. It has tremendously seen a growth in the past year. Values dated 10th July 2019, the gold valued was Rs. 35, 220 and on 8th July 2020 the value was Rs. 51,075, nearly a growth of Rs. 15,855 in a year. This shows the stability in the gold prices and the trend looks to be positive and bullish in the year.

How much gold should be part of your portfolio?

The COVID – 19 pandemic and ensuing lockdowns have slowed down economic activity across the globe, significantly lowering growth forecasts. In India too, the spread of Covid cases and halt of economic activity coupled with downgrades in credit space has kept both the equity and debt markets volatile. Easing rates have also brought down returns on various asset classes.

Hence, investors face an expanding list of challenges around asset allocation and portfolio construction. Among these:

  • Low interest rates regime, which may push investors to seek riskier assets at elevated valuation levels
  • Continued financial market uncertainty ranging from geopolitical tensions, to expectations of diverging global economic growth and an increase in asset volatility

In such an environment, where everyone is scouting for relevant investment option, the relevance of Gold is highlighted as an asset allocation in a client’s portfolio.

In a low interest rate regime, the opportunity cost of holding gold is also lower as the investors won’t be foregoing the yields earned in other assets.

It is believed that gold is not only a useful long-term strategic component for portfolios, but one that is increasingly relevant in the current environment.

One could allocate 10 -15% of gold in their overall portfolio (5% in core allocation and 5-10% in tactical allocation). Core allocation can be done through Sovereign gold bonds (Primary/Secondary market) and tactical allocation can be done through ETFs.

What has contributed to the rise in Gold?

1. Easing monetary policies globally including US Fed: Lower interest rates reduce the opportunity cost of holding non-yielding bullion and weigh down on the dollar.

2. Economic Uncertainty amid lockdown: Concerns of global growth loom large. In such uncertain economic environments, investors turn to tangible assets which can be considered safe and hence… rush to buy Gold!!!

3. Central Banks continue to buy Gold: Central Banks continue to buy gold, adding fuel to gold prices

4. Investors move from Financials to tangible assets: Given the concerns over financial assets -be it debt or equity, investors are looking for safe haven in tangible assets. That leads then to Real estate and Gold as alternatives. While returns from real estate can be more dependent on various demand supply dynamics as well as can be impacted by regulations, appeal for Gold continues to remain widespread and the investment itself is quite liquid compared to real estate. Hence we believe that Gold can be great for core allocation or simply to hedge against the uncertainty

5. Movement in Currency: INR has depreciated by 5.2% CYTD. With US willing to do balance sheet expansion to support market, it may lead to depreciation in US Dollar and also impact EM currencies. This depreciation in currency can also bode well for domestic Gold prices

It is believed that higher risk and uncertainty combined with lower opportunity cost is likely to be the driver of gold investment demand in 2020. This could also offset the negative effect of lower consumer demand on gold performance as economic activity contracts.

Benefits of Gold investments to your portfolio:
  • Negative correlation with stock market - Stock markets are volatile in nature, while the gold is stable and safer investment avenue that diversifies the portfolio. Gold often moves opposite to stock markets, so if the markets fall the gold rises. So practically, gold saves the portfolio if there is any market event to occur and gives downside protection.
  • Hedge against inflation – the value of gold rises with the cost of living and as the inflation rise the price rises, markets fall, the value of currency declines. Most of the currency has depreciated against gold and that’s another reason to have gold investments.
  • Safe Haven – Any crises/prolonged uncertainty could impact your portfolio’s equity-debt allocation, but with gold the investments would be stable and fixed.
  • Diversifies Risk – the market risk is settled by having a gold investment in the portfolio.
  • Liquid-able – Gold investments can be easily subscribed and redeemed at any time.
  • Valuable to sell - On selling gold, the investment generates capital appreciation.
  • Borrow funds – any form of gold could act as a loan collateral and finance for any goals that couldn’t be fulfilled due to insufficient funds in your portfolio.
Cons of gold investments to your portfolio:
  • Steady growth – Gold investments provide regular incomes as compared to the equity investments.
  • Global prices of the gold can fluctuate the price of gold in India.
Summing Up:

Gold as an investment reduces the volatility in your portfolio and generates a good stable growth for a long-term return. Yet having too much gold investment in your portfolio could hamper your portfolio’s growth. One should allocate only that proportion of gold in their portfolio that can improve their performance.

ICICI Securities Ltd.( I-Sec). Registered office of I-Sec is at ICICI Securities Ltd. - ICICI Venture House, Appasaheb Marathe Marg, Prabhadevi, Mumbai - 400025, India, Tel No:- 022 - 2288 2460, 022 - 2288 2470. I-Sec is a Member of National Stock Exchange of India Ltd (Member Code:-07730) and BSE Ltd (Member Code :103) and having SEBI registration no. INZ000183631. Name of the Compliance officer (broking): Ms. Mamta Shetty, Contact number: 022-40701000, E-mail address: Investment in securities market are subject to market risks, read all the related documents carefully before investing. The contents herein above shall not be considered as an invitation or persuasion to trade or invest. I-Sec and affiliates accept no liabilities for any loss or damage of any kind arising out of any actions taken in reliance thereon.

Global Investment Platform is offered by ICICI Securities in collaboration with interactive brokers. Involvement of ICICI Securities Ltd. is restricted to Referral Only. ICICI Securities Ltd. does not offer this product directly to customers. Client’s details will be shared with third party stock broker (Interactive Brokers Group, Inc.) with expressed consent from clients. All dealings including KYC will be executed by third party stock broker (Interactive Brokers Group, Inc.) directly with client and ICICI Securities Ltd. will not incur any personal financial liability. All disputes with respect Global Investment will not have exchange redressal and arbitration mechanism.