In the current economic scenario where inflation is threatening to get out of control, investors need to invest in asset classes, which have a positive correlation with inflation. Gold is one such asset which has historically done well during periods of high inflation. This is because during such times investors shift their holdings toward hard assets as the purchasing power of paper money starts dwindling.
An analysis of the price of gold during the high inflationary period of 1970’s in the United States shows that gold gave handsome returns during the years when inflation was on an uptrend. As average inflation shot up from 6.5% in 1977 to 13.58% in 1980, the average annual price of an ounce of gold also zoomed from USD 147 to USD 615 . Once inflation was brought under control post 1980, the price of gold also started receding.
Chart: Gold Price Vs Inflation (1977-1982)
Gold exchange trade funds (ETF) are one of the most convenient ways of investing in gold. Gold ETFs are open-ended mutual funds that put your money in physical gold and issue units to you in demat form. Investing directly in to bullion has storage and security issues. In case of jewelry there is too much of spread between the price and the value for it to be considered as true investment. Gold ETFs can be traded easily on the stock exchange at a transparent price and in convenient denominations, making it a more ‘liquid’ investment as compared to gold bullion. Another advantage is that investments through ETFs do not attract wealth tax provisions.
Currently, there are five gold ETFs listed on the National Stock Exchange. ETFs have outperformed the stock market indices with an average return of 42% in the last one year. For an average investor ETFs are the best route to get more out of his gold investments. An allocation between 5% – 10% of their portfolio to gold is recommended.