Russia-Ukraine Crisis – Should you buy gold? 

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Gold, often referred to as a safe haven, acts as a diversification product against the stock market. Currently, the Ukraine-Russia conflict has quite an impact on the market. This geopolitical issue has had a significant negative effect on the stock market, whereas gold prices increased tremendously. 

 

Let’s take a closer look

Gold crossed ₹51,500 per 10 gm on February 24, 2022 – highest in 13 months, as Russia declared war on Ukraine. Over the past twelve months, gold prices have been inching north due to the global market’s heightened volatility considering Covid-19, Omicron, and rising geopolitical tensions and factors such as rising inflation.  

Source: EduFund 

The above graph shows the monthly gold price movement over the last year. 

 

Gold vs Capital Market 

The correlation between gold and the stock market cannot be established directly. Gold has an inverse relationship with the stock market. Gold has a negative correlation to the stock market movement.

The chart below shows how the market panned out over the past 12 months. One thing is evident that the market witnessed high volatility owing to multiple economic and global factors.  

Source: EduFund 

The above graph shows the monthly gold price movement over one year. 

Also, going by the VIX chart, it is evident that the volatility in the market has increased, and in some small-cap and mid-cap segments, the price corrections have been very steep. On February 24, the market fell massively by nearly 4.7% – a single largest fall in the last two years. 

Source: EduFund 

The above graph shows the monthly gold price movement over one year. 

Should you consider investing in gold? 

Investors commonly perceive gold as a haven in a severe stock market downturn. Historically it has been proved that whenever the stock market plummets, gold performs very well. The sale of gold coins, gold bars, gold ETFs is maximum when the stock market performs poorly.  

Similarly, gold demand picks up fast when a country’s GDP is faltering. This is because when the economy is unstable, investors prefer to park their money in hard assets. 

  • Value is held for ages – Unlike other currencies or assets, gold has maintained its value throughout the ages. While people see it as a means of transferring wealth from one generation to other, we believe gold is one of the best instruments that have sustained value for centuries now. 
  • Helps beat inflation – Gold has always been an excellent hedge against inflation. Its price tends to increase with the rising cost of living. Typically, while stock tends to plunge during the high-inflation period, gold, on the contrary, results in a direct correlation with the price increase. Thus, it provides a natural hedge against inflation. 
  • Geopolitical Uncertainty – Gold as a universal investment instrument holds its value in times of uncertainty – be it financial uncertainty or geopolitical uncertainty. Often referred to as the “crisis commodity”, the yellow metal seems to see a high demand from people when world tensions rise. For example, in response to the crisis in the European Union, the gold prices started to inch north.   
  • Portfolio Diversification – One of the basic concepts of diversification is finding investments that are not closely correlated to one another. Historically, it has been found that gold has had a negative correlation with other financial instruments such as stocks. This can be vetted with the following example: 
  • During 1970, while the stock prices were terrible, it was great for gold. 
  • Between the 1980s and 1990s, while the era was good for stocks, gold prices crashed significantly. 
  • In 2008, the stock market saw a significant correction to which many investors migrated to gold. 

We believe a well-diversified portfolio with the right combination of stocks, bonds (both standalone and in the form of mutual funds), gold, and liquid cash in a portfolio will help reduce the overall risk of the portfolio while maximizing returns. 

  • Weakness in global currency – US Dollar is regarded as one of the most important currencies in the world and constitutes to be a part of every treasury reserve held by economies globally. During times when the value of the dollar falls against other currencies, as it happened during 2008, it is likely that people flock to the security of gold. 
  • Demand-Supply mismatch – The supply of gold in the market has been falling since the 1990s, and much of the gold sales are made from the vaults of central banks, given the production of new gold from mines has been declining. On the other hand, rising wealth in emerging markets has boosted the demand for gold over the past couple of decades. Thus, as a general rule, reducing supply coupled with rising demand results in increasing gold prices. 

How much allocation is ideal for gold 

Investment in gold, as discussed above, should only be considered as a protection against macroeconomic shocks. Thus, it should form a part of your portfolio based on your risk appetite. We believe people in India generally act too extreme.

They tend to either invest a 100% portfolio in gold or don’t invest at all. Based on the risk-return profile of gold and other asset class, it should not account for more than 10% of the total portfolio. 

How to Invest in Gold? 

Once an investor has determined the allocation of gold to the overall portfolio, an investor should look at the ways by which an investor can invest in gold: 

Physical Gold – Can be bought as coins or bars 

Jewelry – It is another option, but the cost of converting gold into jewelry is high.  

Gold Funds and ETFs – Passive investment in gold. An investor can invest in units of gold funds or gold exchange-traded funds (ETFs) that are managed by asset-managed companies. 

E-gold – It can be bought on a commodity exchange through any broker. Re-materialization of e-gold allows conversion into physical gold as per the requirement of the investor. 

Sovereign Gold Bonds – Bonds offer similar returns that are offered by physical gold. It also provides tax benefits. 

Why Digital Gold and Benefits of Investing in Digital Gold 

Digital Gold is issued by MMTC (Metals and Minerals Trading Corporation of India) or Augmont. Investing in digital gold is just like buying physical gold. The only exception is that there is no physical possession of gold. This offers a clear advantage over issues like purity, storage, making charges, wastage, and liquidity.    

Gold mutual funds and ETFs are also alternatives to physical gold. However, their efficiency doesn’t match that of digital gold. This is mainly because of their expense ratios and other relevant charges that are paid to the fund house.  

Here are some benefits of investing in digital gold –  

  • Can be started with as low as Rs. 10 
  • No charges such as expense ratio 
  • Holdings can be exchanged against physical gold with the option of door delivery. 

Thus, digital gold is increasingly becoming one of the best ways to invest in gold. 

Exchange-traded funds (ETFs) that invest in gold and other precious metals have seen massive inflows as investors rush to shield themselves. Investors are mainly panic selling their stock investments under the current conflict situation and investing in gold, gold ETFs or digital gold to hedge against their massive losses in stocks. 

With the situation worsening, having Russia started its invasion into Ukraine, the markets are likely to correct until the tension between the two countries eases. This is like shooting the gold prices north. It is advisable for an investor looking to protect the portfolio from short-term volatility to take a position in gold. 

With an optimistic view of gold prices, one should invest in digital gold. This would come with numerous benefits. One is to hedge against the stock market volatility. Another is the ease of investing in digital gold.

Also, keep in mind that gold prices will always keep growing due to the never-ending demand for gold. 

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