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Why invest in gold?

Gold has got lot of emotional value than monetary value in India. India is the largest consumer of gold in the world. In western countries, you can find most of their gold in their central banks. But in India, we use gold mainly as jewels. If you look at gold in a business sense, you will understand that gold is one of the all time best investment tool. My dear readers, today I would like to discuss on investments in gold and its potential.

I don¡¦t think that I need to give you the definition of gold, because everyone is familiar with gold and in India almost everyone use gold in their daily life. Gold is one of the safest and low risk investment tools in the world and obviously in India also. Gold can be readily bought or sold 24 hours a day, in large denominations and at narrow spreads. This cannot be said of most other investments, including stocks of the world¡¦s largest corporations. Gold proved to be the most effective means of raising cash during the 1987 stock market crash, and again during the 1997/98 Asian debt crisis. So holding a portion of portfolio in gold can be invaluable in moments when cash is essential, whether for margin calls or other needs.

Recent independent studies have revealed that traditional diversifiers often fall during times of market stress or instability. On these occasions, most asset classes (including traditional diversifiers such as bonds and alternative assets) all move together in the same direction. There is no ¡§cushioning¡¨ effect of a diversified portfolio ¡X leaving investors disappointed. However, a small allocation of gold has been proven to significantly improve the consistency of portfolio performance, during both stable and unstable financial periods. Greater consistency of performance leads to a desirable outcome ¡X an investor whose expectations are met.

Indian Gold Market Current Scenario

Size of the Gold Economy: more than Rs. 30,000 crores
Number of gold jewellery manufacturing units: 1,00,000
Number of people employed: 5,00,000
Gems & Jewellery constitute 25% of India¡¦s exports about 10% of our import bill constitute gold import.
Number of banks allowed importing gold: 15 (While recently this has been liberalized, detailed notification is awaited)
Official estimates of the stock of gold in India: 9,000 tons
Unofficial estimates of the stock of gold in India: 12,000 ¡V 14,000 tons
Gold held by the Reserve Bank of India: 358 tons
Gold production in India: 2 tons per annum.

Demand for gold in the Indian Market

India has the highest demand for gold in the world and more than 90% of this gold is acquired in the form of jewellery. Following are the factors influencing the demand for gold.

  • The movement of gold prices is one of the important variables determining demand for gold.
  • The increase in the irrigation, technological change in agriculture (through mechanization and high yielding varieties), have generated large marketable surplus and a highly skewed rural income distribution is another factors contributing to additional demand for gold.
  • Black money originating in the services sector, like real estate and public sector, has contributed to gold as store of value. Hence income generated in these service sectors can be treated as a determining variable
  • Since bank deposits, unit trust of India, Mutual funds, small savings, etc are alternative avenues for investing savings, the weighted return on these alternative assets can be considered as another influencing factors.
  • Demand for gold also depends upon prices of other commodities. When there is an increase in general price level, it has two effects: first it reduces the purchasing power available for acquisition of jewellery and secondly, it reduces the real return on gold. It has depressing effect on the component of demand in both ways.
    Inflation redistributes incomes in favour of non-wage income earners, leading to more skewed income distribution. With incremental income of non-wage earners, the demand for gold as a store of value can be expected to rise.
  • Supply of Gold

    The main economic effects that arise from the changes in the supply of gold can be seen against the quantum of gold that is already in existence in the economy. The supply of gold is not up to the requirements as the production of gold is also coming down and demand for gold is going up very sharply.

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