Pick up any financial article these days and you are bound to find a full page article on the yellow metal, much to its justification, the yellow metal have always hogged the limelight for centuries and for generations. The Egyptian Pharos considered it to be one of the most prized possession for its journey to the afterlife, there are fabled stories in the mythology, the Kings preferred manner to reward apart from gifting land was gold, the treasure hunters diving deep into the sea to find the lost yellow metal, to the Hollywood and to the Second World War when families buried gold in their backyard garden while fleeing air raids. In the last few years the role of gold has increased not only as a store of value but also as an important alternative asset class providing a diversification benefit. In India, people have a liking for gold, it’s more cultural and historical apart from other reasons like, symbol of security, sign of prosperity, safe investment in times of crisis and personal risk, for rural India gold is a preferred investment as its gives a sense of financial security and also due to lack of banking facilities.

Yearly Return of Gold vis a vis other Asset Class

Equity: S&P Nifty, Bond: I-BEX (I-Sec Sovereign Bond Index), Gold: Gold Prices in INR, Source: Axis Bank Newsletter – Priority Page (Bloomberg, SID)

The advantages of investing in Gold:

1. Diversification: Gold has a very low or negative correlation with other assets classes and hence offers a diversification benefit to investors. Having gold as part of the portfolio, one can potentially reduce the overall risk.
2. Inflation Hedge: Gold has, for the past many centuries, maintained its value against inflation. It helps to preserve the value of the capital. Historically higher inflation has resulted to a higher value for gold prices.
3. Low Volatility Asset: Gold as an asset class has been less volatile than equities and has been able to provide stable return on year on year basis when compared to equities which have seen much volatility. This suits investors with longer term horizon and goals to have a steady flow of return on investments as against erratic movements in the capital market.
4. Protection against Currency Weakness: Gold has been a favorite hedging tool for many traders for the past several years. Governments across the globe have taken refuge in gold when faced with currency volatility of the domicile. Gold helps to protect value of money against currency weakness especially against the USD. Since gold is denominated in USD, US interest rates have a great impact on prices. During times of low interest rates and rising inflation, investors scout the option to invest in gold.

The above table shows CAGR performance of Gold (USD/Oz) as on 31st Dec 2010
Source: AxisBankNewsletter – Priority Page (Bloomberg)

There are various options for ownership of gold, the most common practice is to buy gold in physical form (gold coins and bars and through jewellery), or may be through Gold Exchange Traded Funds (Commonly as Gold ETFs) which are passively managed mutual fund schemes that track the benchmark index and reflect the performance to that index, or by investing in Gold Mutual Funds which are professionally managed by fund managers that invest in stocks of companies that are into gold mining, gold trading and large retail houses which are listed, or by directly investing in companies which have gold as its primary business activity.