Gold is Essentially a Portfolio Diversifier

In the last couple of weeks gold has turned out to be quite volatile and is down by almost 6 per cent from its recent high. Many investors now believe that gold has run its course as it is up by more than 50 per cent in the last one year and there is no merit in investing in this yellow metal. I find two major flaws in this argument. First, gold should not be purchased as an asset that will help you get superior returns over a longer period of time. There is no doubt that equity remains the best asset class to help you generate wealth in longer period.

Gold acts as a perfect portfolio diversifier. The returns given by gold are negatively correlated to equity. The best part is that in volatile times or uncertain period in terms of economic activity, gold further decouples from equity and negative correlation further increases. Starting from the dotcom bust to the latest pandemic, every time there is instability in the equity market, we have seen this phenomenon playing out. This property of gold makes it a perfect portfolio diversifier.

The second flaw is that there is no substantial evidence that shows that we are yet out of the woods or that the economy in on a normal track. Central banks world over are still busy printing money and we do not see it slowing down in the immediate future. The economic outlook remains grim and the interest rate for a majority of economies is in the negative territory. These factors have traditionally supported gold prices and I do not see any reason it will be different this time. Short-term technical correction in gold is very much expected and it should not perturb you. Hence, allocating 5-10 per cent of your portfolio to gold with periodic rebalancing will help you to achieve better risk-adjusted return.

SHASHIKANT