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Investors must hold a combination of SGBs and gold ETFs: Rajesh Cheruvu

Risk aversion of investors may ensure that gold prices are pushed upwards

April 23, 2020 / 09:43 AM IST

Gold has lived to its reputation of being a safe haven, so far in 2020. The yellow metal’s price is up 19 per cent since the beginning of the year. Volatile stock markets, inflated credit risk and abundant liquidity in global financial markets have ensured the right platform for gold prices to rally. Moneycontrol’s Nikhil Walavalkar spoke to Rajesh Cheruvu, chief investment officer, Validus Wealth about the prospects for gold and how investors should take exposure to the yellow metal. Excerpts:

What do you make of the rally in gold prices?

Gold prices rallied when stocks were rising due to the ample liquidity in the financial system and when investors were willing to take risk. Typically, in such times, gold has been bought as an inflation hedge. It has shown negative correlation (does not move in the same direction) with equity when investors were not keen to take risks (risk-off mode); for example, during the Asian currency crisis in 1996-97, global financial crisis in 2008 or even the Eurozone crisis in 2011. In crisis times, the investment demand for gold goes up. A combination of these two factors has ensured that gold has done well in the past. In the long term, gold has delivered around 8 per cent returns in dollar terms. If you see the rupee return, it is around 11 to 12 per cent.

However, investors must understand that these returns are also accompanied by high price volatility.

Given the massive liquidity infusion by central banks, there is a fear of hyper-inflation. Do you foresee such a situation? How does that impact gold prices?


Theoretically, the infusion of liquidity should lead to inflation. However the reality is different. Since the global financial crisis in 2008, we have seen central bankers worldwide cut interest rates and ensure ample liquidity in the financial markets to revive economies. Central banks of the US, countries across Europe and Japan ensured monetary stimulus to raise inflation. However, despite so much cheap money floating in the financial system, inflation did not go up as expected. This time also inflation will take much longer to come back. Inflation will not be the driving factor behind gold prices.

The current slowdown is compared with the Great Depression of the 1930s. What would be the impact on gold prices if we again experience a worldwide depression?

The current pandemic can be compared to the Spanish Flue of 1918-1920. The COVID-19 pandemic is a once-in-a-century event and may lead to depression. In a depression, typically, all assets lose their shine. In such a scenario, investors should look for options that offer ‘storage of value’ such as currency, treasuries and gold.

Between August 1929 and March 1933 (great depression), the Dow Jones Industrial Average fell 81 per cent, but gold gave a positive  27 per cent return on an absolute basis.

Where do you see gold prices headed?

Over next six to nine months we see gold prices at around USD 1800 per ounce. This amounts to around 8-9 per cent upside from current levels. At around Rs 80 per dollar exchange rate, it should be around Rs 48000 level.

Risk aversion of investors should ensure that gold prices are pushed upwards. The falling risk appetite of investors worldwide is visible. Most investors prefer bonds issued in developed countries over bonds issued in emerging markets. Investors are also moving up from junk bonds to investment grade bonds and from investment grade bonds to sovereign bonds. The spreads on credit default swaps are up. The rising demand for safe haven should ensure further run up in gold prices.

How much gold should be held in a portfolio?

As gold does not generate yields, sovereign gold bonds (SGB) offering 2.5 per cent interest are an attractive avenue to invest in gold. There is no tax on capital gains if held till maturity. There is indexation benefit on capital gains, if sold after holding for three years. We recommend investing up to 5 per cent of your money in gold in a combination of SGB (3 per cent) and gold exchange traded funds (2 per cent). The SGB should be held till maturity.

From a tactical perspective, you should be increasing allocation to gold by two percentage points more. This should be achieved using gold ETFs. Overall exposure to gold should be around 7 per cent of your portfolio.
Nikhil Walavalkar
first published: Apr 23, 2020 08:59 am

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