The long-term trends in the gold prices are driven by changes in the overall level of confidence in the monetary system and the economy. Gold as an asset class has traditionally been an ideal hedge for one's portfolio. The very reason for this comes from the fact that it is not correlated with most other asset classes. Capital Market interacted with Mr. Chirag Mehta - Fund Manager (Commodities) - Quantum Mutual Fund regarding the outlook on gold in CY2011.
Here are the excerpts.
What's your view on gold for CY 2011?
Gold has performed exceptionally well in 2010. The relatively high prices seen over the past few years are well supported by fundamental factors. Much of price increase in the last year came on back of increasing debt woes in the European region and more quantitative easing measures (aka money printing) adopted by the U.S to buy its own debt.
The long-term trends in the gold prices are driven by changes in the overall level of confidence in the monetary system and the economy. Therefore, to analyse gold over the long term, it needs to be seen as a monetary asset rather than a commodity. Given the current economic backdrop, where governments are laden with problems like rising deficits and unsustainable debts, it is indeed logical for gold prices to increase in value. Currencies are being continuously debased by policy makers.
In simple words, gold is simply adjusting to changes in global monetary conditions. When a central bank increases their money supply, the price of other currencies adjusts upwards. This is true even for gold.
Also, this (devaluation of currencies) creates inflationary prospects over the longer term and increases the potential for more asset bubbles. In an environment of increasing uncertainty, one would prefer holding to real asset like gold. It's no surprise to see investment demand increase significantly.
Many opine that interest rate increases by the US Fed and a scenario of growing economy would dent demand for gold as an alternative. Investors would start dumping gold and move to bonds as rates increase. One of the main drivers of gold currently is negative real rates. We do not believe that policy making is poised to increase rates enough to make them positive. With the growth in the economy, inflationary aspects would be seen at large. Yes, it could still dent sentiment for the short term as and when it happens leading to a correction in gold prices. We believe these as opportunities to buy gold.
Gold prices are clearly trending upwards over the long term. The macro-economic and supply-demand drivers point to a continued increase in gold prices. Demand from consumption centers like India and China seems to be on a firm footing. Investment demand also continues to grow supporting prices. We don't think that there is a 'bubble' developing in gold.
Gold as an asset class has traditionally been an ideal hedge for one's portfolio. The very reason for this comes from the fact that it is not correlated with most other asset classes. This is because the movement in gold prices is not driven by factors that drive the performance of other asset classes. History has shown that, when equities perform badly, gold at most times tends to outperform. There would be times when gold would under-perform equities by a large margin. But then, you don't question your Life Insurance, when you come back home safe everyday. It is something similar with gold. It is for that rainy day!
Gold is a must have asset class. We all know that the inflation dragon minimizes one's purchasing power i.e. erodes the value of money you own. Over the very long term, there has been a tendency for gold to maintain its value against other real assets and thus acts as a hedge against inflation.
It is recommended to have an allocation of about 15% of one's portfolio to Gold. Investors should use any dips in prices as an opportunity to add gold to their portfolio or should ideally buy equal quantities of gold every month and reach the desired level of allocatio.