Will RBI's big bet on gold pay off? Experts debate

Excerpts from Your World at 10 on CNBC-TV18 Watch the full show » Nifty BSE | NSE 30/05/12 Are Mutual Funds betting on Nifty?

Q: One view, as you put it, is that you don't think the RBI would do more of this. The question I would like to ask you is that do you think the RBI should do more of this?
Sabnavis: I don't think they should actively out and try and do it but maybe in case there are further sales of gold, which are there in the market, then maybe it may makes sense for the RBI to do it. But then one should make sure of one thing that (a) we are going to go in for the diversification strategy and (b) we also need to inform the market about what is the valuations of these gold reserves because today we are all working on the premise that the dollar is going to depreciate, which is fair enough, but what happens tomorrow incase the dollar starts appreciating and the price of gold falls. We are going to have a mark-to-market (MTM) risk, which we are going to carry.
Q: Also, the reason why many analysts are predicting or forecasting that other central banks will follow suit is on the basis of the inherent reasoning that the dollar will weaken and gold will actually gain strength in terms of pricing. Do you buy into that underlying assumption?
Mecklai: I don't think central banks are in the business of trying to make money. This was opportunistic. They got some gold - it's a good thing. I don't think they are going to be continually active buyers of gold. For them to buy enough gold to materially diversify - they would have to buy a huge amount of gold. That would actually be at one level it would be diversifying the risk but they have got other non-dollar holdings. The research we are doing is showing that the dollars in reserve is not more than 50-60% anyway. What this points to is that central bank - they have an asset manager at the central bank like asset managers everywhere - do recognize that risk is high and risk is increasing. So, basically it is a risk management activity and that is really the sum of it in my view.
Q: But if it is risk management, which it ought to be, then we should see more of it. I cannot understand why both of you are arguing against further purchases. I get the point Madan is making that this could potentially be an MTM liability sitting on the balance sheet of RBI. But what if the dollar doesn't turn - that is the question - risk management the central bank is trying to do and that's the reason behind this purchase isn't it?
Mecklai: The reality is that they have got gold, euro and the sterlings - perhaps they have even got some yen. So they have got enough other assets. I don't think today the RBI or anyone for that matter really wants to diversify out of dollars to the point where dollars are less than 50% of their holdings. In fact about six-weeks ago I put out a report saying could gold go to USD 1,250 an ounce? The reality is that it could certainly go to USD 1,250 per ounce but it would come down again. So, the reality is that I think they are well diversified already and this is another small piece of it.
Q: Do you agree with that?
Sabnavis: I would agree with what Jamal is saying. There is this whole thing of saying whether the RBI is really very adept in managing the gold reserves. Here we are talking in terms of buying gold - have they actually bought it at the best possible price. I would think that IMF got a better deal in this particular transaction by selling it at USD 1,045 an ounce because when gold was in the region of say USD 900-930 an ounce - that would have been the right time for the RBI incase they were actively looking at diversification through gold to have gone and thought of buying gold and by doing so when exactly will gold cross the USD 1,000 an ounce mark. Buying at this particular stage, I would say it did not really show that the RBI has shown that much of instinct as far as gold prices are concerned.
Of course it is not the central bank's job but asking the central bank to actively start dealing with gold in terms of buying it at a right time - there is a big question mark in front of that.
Q: For whatever reason if the RBI does persist in gold purchases - what impact will that have on the rupee?
Mecklai: I don't think that's really has any material impact on the rupee. Today the rupee is responding to the dollar strength or weakness, responding to capital flows and everything is covered by an overall sense of nervousness in terms of what's happening to the global economy. So, I don't think RBI buying more gold is going to make any material impact on the rupee.
Q: What about you?
Sabnavis: I agree with Jamal because what is that RBI doing is that they are basically swapping internally between their components of the foreign exchange reserves. So they are not entering the market and picking up the dollars and buying gold. That would have created a problem. But since its happening just between say gold and dollars/euros, which ever way it is, I don't think that is going to impact the exchange rate.