Dhanteras Season: How Gold is a risk-reward despite a bumpy October

Source :Sify
Author :Chirag Mehta
Last Updated: Wed, Nov 4th, 2020, 18:41:16hrs
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Gold rates slipped by 1.4 percent in the month of October. With Dhanteras barely weeks away, a question most investors are curious to know is what to buy.  

Stocks and mutual funds are what most savvy investors keep an eye on. Gold as as a physical commodity is what most investors and buyers invest in ahead of the Grand Laxmi Puja day.  

If you are keen on Gold, it is better to take a stock of what caused movement in Gold rates last month and also where the trend is likely to go.  

Gold moved back and forth around $1900 levels for most of October before settling at around $1880/ounce, 1.4% lower for the month. It was mainly reacting to the fluctuations of the other safe havens, the US dollar and US Treasury yields, triggered by conflicting developments on the next round of fiscal stimulus in the United States and market anxiety leading up to the most consequential US presidential elections in recent history.

Covid-19 refuses to back down:

October was gloomy as far as COVID-19 developments are concerned. US coronavirus cases have hit a record daily high as states struggle with a renewed wave of infections. Cases are resurging in Europe too, where the UK, Italy, France and Germany have imposed new restrictions, curfews and lockdowns. Along with the setback of big drug companies halting vaccine trials, the number of reinfection cases worldwide too has inched up significantly. Current evidence shows that those who were reinfected suffered a more severe illness the second time around. This could result in further slowing down the pace of economic recovery.

It’s becoming increasingly clear that normalcy will continue to evade us and the world will be stuck in a cycle of lockdowns and openings till a successful Covid-19 vaccine is developed and distributed and the virus is defeated. Most vaccines, in the final stages of clinical trials, are expected to be publicly available only by mid-2021.

Also Read: Latest & Accurate Gold & Silver Rates across Indian cities. 

Accommodative policy to continue

We are already aware of how dire the economic effects of such lockdowns will be, with the global economy having fallen into a deep recession due to the Great Lockdown of 2020. It took 12 trillion dollars of fiscal stimulus and unprecedented monetary easing by central banks to soften the economic blow of the pandemic-induced lockdown. And in spite of that businesses have shut down and millions have lost their livelihoods. The IMF has now projected that the global economy will contract by 4.4% in 2020, but has warned that the climb will be long, uneven, uncertain and prone to setbacks. The second wave of the disease is expected to increase the financial fragility.

As such, sustained government relief measures and lower interest rates and quantitative easing by central banks are imperative to get the economy through this health cum economic crisis for as long as it takes. With rates at zero and aggressive expansion of the monetary base without real lending, monetary policy becomes docile and can only work towards creating asset bubbles. Several Federal Reserve officials have called for more fiscal response as they realize that their tools have run low. Further fiscal policy response means huge amounts of money trickling down the real economy in the hands of people who would spend it making the outcome more inflationary.   High inflation and continuation of low rates would lead to real interest rates moving further down driving savers in search of assets that help preserve purchasing power.

Gold will continue to be a stable form of money with potential to store value in the midst of this global currency debasement and will appreciate in these times of low interest rates. It will thus continue to be a preferred portfolio asset generating good risk adjusted returns for its holders for the foreseeable future.

Signs of social unrest

To add to the world’s woes, anti-lockdown protests have started in some parts of Europe as people struggle with lost jobs and incomes and economic inequalities rise. This could just be the start of economic pain of the pandemic translating into social unrest. If such social tensions become more widespread, risk averse investors will choose to park their funds in gold.

Gold ETFs add 1000 tons in 2020

Gold rallied sharply by nearly 20% between April and July, reaching an all-time high in early August. When prices increase at such a lightning pace, there is often a phase of correction and consolidation, like the one we are currently in. The metal’s prices have declined by ~8% over the last couple of months. But this pullback is likely tactical in nature. Because despite the weaker prices, investment demand via gold ETFs has continued to increase.

As per the World Gold Council, global net inflows of 1,003 tons in 2020 have taken gold ETF AUM to an all-time high of 3,880 tons or US$ 235 billion. This tells us that even though gold’s popularity seems to have temporarily waned, its long-term strategic positioning is intact.  

Outlook for gold remains positive

Nothing has changed about the macroeconomic drivers that have powered gold to all-time highs.

The Covid-19 pandemic is far from over, we are in the midst of a deep global recession, central banks are injecting liquidity and purchasing assets, interest rates globally continue to stay low, government debts and deficits are inching up, threat of inflation is looming, the dollar and other currencies continue to be debased and geo-political tensions are rife. As such, gold investors would do well to have a long-term perspective and ignore the short-term gyrations in prices.  

Next week’s US Presidential elections and the fresh lockdowns across Europe have been weighing on risk sentiment and fueling stock market volatility. This in turn has strengthened the dollar off late, as well as pushed benchmark 10-year US Treasury yields to 4-month highs of 0.87%, a sharp spike from 0.65% levels that it has been trending at for months.  

Gold, which is priced in dollars tends to weaken when the currency strengthens and rising yields increase the opportunity cost of holding gold, thus hurting the metal. But there’s no question that more stimulus is in the pipeline for Americans irrespective of who wins the election. Thus, a prolonged dollar strengthening trend seems unlikely considering the large US fiscal deficit and its debasing effect on the dollar. In addition, more stimulus and spending will translate into higher inflation, especially given that the Federal Reserve has said that it will allow inflation to run higher before tightening monetary policy, which will mean sustained negative real yields. Gold will be a direct beneficiary of both these trends. Also, if the uncertainty increases on further COVID-19 scare or from a contested election in the US, gold will soon start attracting bids despite any dollar strength.

If you haven't already allocated 10% to 15% of your investment portfolio to gold yet, this Dhanteras could be a good time. Since purity is a concern when buying physical gold and since the purchase of gold bars and coins comes at a premium on account of markups and making charges, we suggest that investors choose the more price efficient and pure Gold ETF route for investing.

If you have completed your allocation, just sit tight and watch gold play a risk-reducing, return-enhancing role for your portfolio.

Disclaimer: Chirag Mehta is a Sr Fund Manager for Alternative Investments with Quantum Mutual Fund. Views expressed in the article are personal and presented for general information purposes. Readers are advised not to construe the piece as a guideline or recommendation for investments. The article including the headline is edited by a Sify staff writer.