DSIJ Mindshare

The Gold Story: Still A Stunner


Despite the government taking up a series of measures to curb the demand for gold, the trends are still not showing much of a reason for the metal to lose its charm for investors, says Amit Bhanot

It may have been the last piece of bad news in the last fiscal, but it hit the Indian economy below the belt. On the last trading day, the whole economy was jolted with the December quarter Current Account Deficit (CAD) number, which has risen to a new high of 6.7 per cent of the GDP, pathetic by any standards. In fact, what is more disturbing is that this figure stood at 5.4 per cent in the quarter ending September 2012. This is more so in an environment where the government is toiling hard to bring the financial health of the country under check by any means, be it fiscal or monetary.

This difficult situation has brought into glaring focus once again, the fascination of the Great Indian Public for the yellow metal, i.e. gold. In fact, this is now being presented by the Government as the primary cause for an unprecedented spurt in CAD (discounting the other major cause that we certainly can’t do away with – a heavy crude oil bill).[PAGE BREAK]

Policy Intervention

Presently, out of India’s total current account outgo, gold is the second largest imported commodity after oil and contributes about 10 per cent of the total import bill. For the last couple of years, the government has been taking measures to somehow pull it down.

It all started with the C Rangarajan-headed Prime Minister’s Economic Advisory Council’s (PMEAC) statement about ever-increasing gold imports last year. Since March 2012, there has been a six-fold increase in import duties and talks of more stringent measures in the bullion market are looming large, including the introduction of Know Your Customer (KYC) norms for buyers, increase in Commodities Transaction Tax (CTT) for bullion trade and encouraging Gold ETFs.

Despite all this, the question arises as to whether it will impact the charm of gold for the Indian masses in any way. More importantly, would these measures help the government in taming the CAD?[PAGE BREAK]

Cash Transactions: The Key Driver

Before we proceed, first let’s understand a key factor that drives the Indian demand for gold. In India, around 60 per cent of gold trade takes place in the form of cash transactions. “An investor parks his unaccounted money in gold for two reasons. First, gold will be considered as sureshot bet for good appreciation, and secondly, it is the only mode where cash can be invested”, says a big bullion trader on condition of anonymity.

This condition in itself is very perturbing for the government, as while it is taking all possible steps to curb gold imports, these efforts are going down the drain due to a very strong pull from the cash economy. It is not difficult to understand that once there is money, there can be many ways to make gold transaction a legitimate money trade thereby putting pressure on imports. Not to be surprised from the fact that off late Indians share into gold investments has reached more than 41 per cent (108.9) of the total consumption of 261.90 tonnes in the quarter ending December 2012, while jewellery contributes 153 tonnes.

The government think tank is fully aware of this situation and thus KYC norms are being introduced in gold trade in a bid to curb cash transactions in gold trade, with more restrictions to come in going forward. Under the KYC regime, every jeweller has to keep records of customers who purchase precious metals and expensive stones worth more than a threshold limit for a period of five years. To this end, an amendment to the Prevention of Money Laundering Act has already been passed by the Parliament in February 2013. Though the threshold limit hasn’t been announced by the government so far, it is likely to be at Rs 50000. “If this KYC regime comes into being, than it will certainly hamper the overall precious metals market and the demand for gold would certainly take a big beating”, avers Ketan Kothari, Director, RiddiSiddhi Bullions.[PAGE BREAK]

But if we foresee the impact of this restriction on the overall demand for gold too, we need to consider the demand from the rural side too, which has traditionally remained a cash market. “Today 50-60 per cent gold demand comes from Tier II and Tier III cities, and given the huge agriculture income, it is too early to say that KYC norms would have a drastic impact on the gold demand”, opines bullion market trader Karan A Vasa.

Jewellery Demand Robust, But Manufacturers At A Loss

India, being the largest consumer of gold in the world, has historically harboured a unique obsession with the yellow metal, which is now part of the cultural DNA of the country. 2012 was a perfect year which clearly showed come what may, Indians’ love affair with gold continues uninterrupted. As per the World Gold Council report, in the first half of 2012, the Indian gold trade and imports were marred by steep duty hikes, a bleak economic outlook and high metal prices. When many experts were predicting an end to the gold obsession, the festivity-laced second half of the year came upon us. As Diwali and the wedding season marked a robust recovery, gold demand in the fourth quarter of CY2012 was 27 per cent above the five-year quarterly average at 261.9 tonnes.

“This would again be true for 2013 as it is a culturally accepted fact that on many auspicious occasions it is mandatory to purchase gold”, quips Vasa. The jewellery demand in India was at 552 tonnes in CY2012, making up 29 per cent to the global jewellery demand of 1908 tonnes.

At the same time, owing to proposed restrictions like the KYC norms and hefty import duties, there will be testing times for gold jewellery manufacturers, especially the bigger ones. Their business would certainly be affected by the slew of measures introduced by the government to tame the CAD. Till such time as there is more clarity on these restrictions, it is advisable to maintain distance from these manufacturing companies.[PAGE BREAK]

A Permanent Cure Needed

The RBI’s first 9 months’ data for FY13 clearly shows that the country’s gold imports touched USD 37.8 billion, while the PMEAC has estimated a total import of USD 33 billion for FY13. This would be owing to an ultra robust demand during the festive season last year. If we were to go by the previous year’s trend, it seems that the gold import would easily cross USD 50 billion in FY13, thereby throwing all government calculations haywire.

“Curbing gold imports is just a temporary measure, but we should go for the permanent solution of a better investment climate to improve financial health”, comments Jagannadham Thunuguntla, Head of Research, SMC Global Securities.

The efficacy of duty restrictions and curbs is doubtful as inspite of a steep hike in duties in the last one year, gold imports are continuing full throttle in India even though global hedge funds and big investors are sounding negative on the metal. While this is surely owing to the traditional inclination of the Indian people towards gold as a safe haven, the situation has been aggravated due to the non-existence of any attractive investment avenues in the background of double-digit inflation that continues to creep up and lower real interest rates.[PAGE BREAK]

Gold Will Regain Its Sheen

Inspite of a recent slump in the prices of gold in the international market owing to a decent recovery in the US economy, experts still feel that the metal would regain its sheen very soon. This optimism is backed by some strong logic. Kothari explains, “Firstly, almost all Central Banks are buying gold, due to which the demand for gold from banks has reached 12 per cent in 2012 as compared to 10 per cent in 2011”.

Since 2009, central banks around the globe have purchased around 1100 tonnes of gold, while they have sold 1143 tonnes in the previous three-year period. As per the World Gold Council, these banks purchased around 534 tonnes of gold in 2012, the highest volume since 1964. “Every central bank holds a substantial part of its reserve in the form of gold, but surprisingly China, which has the biggest reserve to the tune of USD 3 trillion, has just two per cent of its reserve in the form of gold. You can imagine what will happen to the gold demand if at any point of time China decides to even double its gold holding”, adds Kothari.

Another reason for robust future gold demand would be that the financial crisis in Europe is far from over, and after Cyprus, if any other negative news strikes the market, it will only strengthen the prices of the metal. In fact, the present price decline is due to the pessimism shown by many hedge funds like SPDR Gold Fund, which is the largest gold exchange traded product (ETP) holding 1290 tonnes of gold. They are selling a good amount of gold in the market in the last couple of months owing to a decent US recovery and a strong dollar equation. But till the time uncertainty prevails over Europe, gold remains in the reckoning.

“In fact, this is the best time to purchase gold as the prices are down. At USD 1550, there would be a good support as it is already 18 per cent lower than the all-time high of USD 1920.30 per ounce that it touched in September 2011”, concludes Kothari.

Range-bound trading is suggested from the rupee perspective also. “It doesn’t seem to breach Rs 28000 per 10 gram levels and on the higher side, Rs 32000 would be a resistance”, Jagannadham says.

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