GOLD: Set To Capture The Centre Stage In Perilous Times

With innovations seeping into every aspect of our lives, everything has transformed other than the value of gold as a measure of well-being. Gold has withstood the lashes of time and technology and survived as the safest wealth-building commodity for the world economy, and especially the individual Indian investors. Gold has been the knighted saviour for both family households as well as sovereigns in times of crisis. 

Even as the rising tensions between North Korea and the US are likely moving towards military confrontation, there is an increased volatility in risky assets coupled with a gush of liquidity in the markets, which is conducive for gold demand. The global gold demand, however, has remained rather unfazed by these developments. 

After a decade of upsurge in the global gold prices till 2012, the prices have been going downhill with a volatile propensity. Continuing the downhill spell of the recent years, the global markets saw the gold demand dip by 14 per cent to 2,004 tonnes in the H1 2017, with the Q2 of CY17 contributing the most to the slump in gold demand, with a 10 per cent drop on the global front, as per the World Gold Council reports.

Correcting the huge inflows in the exchange traded funds in H1 2016, the ETF inflows significantly slowed down in the subsequent quarters, contributing to slowed demand for gold in the global markets. SPDR Gold Trust, the benchmark ETF, continued to dip from H2 2016 till January 2017, with just a volatile recovery in the subsequent quarters, predominantly reflecting in the global gold prices. 

However, experts tracking gold have reiterated their positive outlook on gold, as even after a period of slowdown, the ETF inflows in Europe and the US have been steady, with the overall consumer demand of gold having bolstered up, especially in India. 

In H12017, the ETF inflows were volatile and grew slowly, but surely, amounting to 168 tonnes for the period, with an addition of 56 tonnes in Q2. While the retail investment and technology demand improved since January 2017 with the bar and coin investments and jewellery segment witnessing a sizeable growth as compared to the growth levels in 2016. The jewellery demand spiked to 481 tonnes in 2017, with India being the foremost contributor to the 8 per cent gain in the jewellery demand in Q2 2017, accommodated by remonetisation in the Indian economy. With good monsoons, coupled with a lesser than expected GST rates on gold, the yellow metal is set for higher demand around Diwali—like a cannon doubly charged! 

In the bar and coin segments, investments revived from the erstwhile low levels, gaining 13 per cent to 241 tonnes in Q2 2017 as compared to Q2 2016. Sequentially, the bar and coin demand increased by 11 per cent to 532 tonnes for H1 2017, with a major contribution of India and Turkey in the upsurge, following both country’s economic recovery, currency stability and fair inflation level. 

The central bank gold purchases, although consistent, have however slowed to a sluggish pace. The net central bank purchases for H1 2017 have been recorded at 177 tonnes, down by 3 per cent against the same period in 2016. Reviving in Q2 2017, the central bank recorded gold purchase of 94 tonnes, up by 20 per cent against the previous year. 

Due to the increasing use of wireless charging and development of features using LEDs, the technology demand for gold surged to 81 tonnes, up by 2 per cent for Q2 2017. A constant revolution in the technological front and a higher mass reach of advancements will see a higher release of smartphone handsets and memory chip production, increasing the demand for gold substantially, especially in developing nations such as India and China. 

India’s gold demand has increased by 37 per cent in Q2 2017 to 167.4 tonnes on a y-o-y basis. The country’s aggregate jewellery demand for Q2 2017 stood at 126.7 tonnes, up by 41 per cent. The total investment demand for the corresponding period stood at 40.7 tonnes, up by 26 per cent on a yearly basis. A total of 29.6 tonnes of gold got recycled in India in Q2 2017, as against 23.8 tonnes in the Q2 of the previous calender year. 

Within the peripheries of the domestic factors, gold is set to capture the centre stage in India. Similarly, the commodity’s demand is expected to see its daybreak on the international front. The probability of a nuke war growing amid heightening political friction is likely to bring investors back to gold—their traditional safe haven for investment. Thus, Gold may in the second half shine brighter and keep investors happy.

❝ Though underlying concerns about GST and other transparency measures continue, predictably, positive sentiment returned with continued remonetisation and an expectation of good monsoons. This was evident in the sales momentum during Akshaya Tritiya, supported by a relatively higher number of auspicious wedding days during the quarter. Towards the end of the quarter, one of the biggest demand drivers was the GST rate on gold, which spurred consumers and traders to advance their gold purchases ahead of the GST roll-out. Looking ahead, in the second half of the year, as consumers and trade adapt to the new tax and compliance regime, growth will remain range-bound even with good monsoons. Our full year demand estimate remains between 650 and 750 tonnes, the higher end of the range being more likely.❞ 

- Somasundaram PR,
 Managing Director, India, World Gold Council

Chirag Mehta,
 Fund Manager - Alternative Investments , Quantum Mutual Fund 

What is your expectation on demand for gold in H2 of FY18? 

Physical demand for gold should be good in the second half of the year, spurred by good monsoon. Investment demand may also see some uptick, as the overhang of preponed buying due to demonetisation subsides. The lack of investment demand is more attributable to the relative poor performance of gold vis-a-vis risky assets like equities and as markets shrug off any and all elements of risks. However, we believe this is not a permanent phenomenon. As things change, investment demand will be seen returning to gold. 

Also, the same is the case with global markets where the risk, in our view, has not been assessed properly. Investors are ignoring any bad news they encounter: the collapse of the Trump legislative agenda, North Korea’s nuclear saber-rattling, the criminal investigation into election collusion with the Russians, rising interest rates and quantitative tightening, etc. 

Expectations of increase in interest rates have acted as a dampener for gold prices. The fact remains that the Fed in this tightening cycle has been behind the curve and only tightened when the markets brought it on a platter. All the Fed has done to date is edge its targeted interest rates upward in a belated reaction to rising market interest rates. When the balance sheet reduction does start happening, it will constitute the Fed’s first genuine attempt to tighten monetary conditions. The Fed tightening also represents the biggest risk to the current stretched valuations on Wall Street. While interest rates may be rising from an extremely low level, the sheer amount of aggregate debt in the developed world make these economies extremely vulnerable to any monetary tightening. Also, the optimism reflected in earnings is highly sensitive to small changes in interest rate expectations. The real positive trigger for gold would be when market expects Fed to be unable to normalise monetary policy and reverse its course at first signs of crisis. 

Investment demand has always been a swing factor that can suddenly change. 

How do you see investment demand shaping up for gold in India given that the equity markets are trading close to record highs? 

Investor’s view of gold is similar to what their view was towards equities in 2012-13—just completely lost flavour. Investors have been chasing returns in equities and bonds over the last couple of years, while completely ignoring gold. Investors need to understand that every asset has a place in one's portfolio and this principle often gets ignored in the chase for returns. We believe that ideally investors should allocate about 10-15% of their portfolio to gold. Gold is a great portfolio diversifier, have an allocation and if it falls by half the next day, because it might probably turn out that the rest of your portfolio could be doing well. Only when your portfolio requires diversification, gold will likely be an asset that will come to rescue. 

So far in 2017, investment demand has been extremely dull in India. But this can suddenly change, maybe correctly repricing of risks can bring a sizeable correction in equity markets and highlight the importance of gold in one’s portfolio. 

What is your take on interest rates in India and how do you think interest rates will influence the gold prices?

One important driver of gold demand is real interest rates, which is, prevailing interest rates minus inflation. With significant decline in inflation, real rates were positive in India, driving investors from physical assets like gold and real estate towards financial assets like bonds and equities. 

Inflation has fallen significantly over the last couple of years, which has allowed a decline in interest rates. But we estimate that inflation seems to have bottomed out allowing lesser room for any more interest rate cuts by RBI. Any decline in real interest rates on account of creeping up of inflation expectation can lead to investors reassessing owning gold. 

On a broader scale, after the US elections, the price of gold came down as the market priced in higher real interest rates in anticipation of lower regulations. We indicated that this euphoria will cede to realism, meaning that regulations might not be cut quite as much. However, the real positive trigger for gold would be when the market expects Fed to be unable to normalize monetary policy and reverse its course at first signs of crisis. The world is in great disequilibrium, both with respect to the global economy and geopolitics as well. The fallout of the geopolitics globally seems to now cap the downsides in gold. Given the macroeconomic backdrop, gold will be a useful portfolio diversification tool and this will drive investor to gold in a bid to reduce overall portfolio risk.