Gold gets attractive, short wait may bring you a better deal

Yellow metal faces shrinkage over previous year prices for the first time in 13 years on strengthening dollar

Written by Sandeep Singh | Updated: October 13, 2014 10:08:07 am

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The falling international gold prices and the subsequent correction in India has come in handy for all prospective gold buyers this festive season as the prices this Diwali are set to be lowest in the last three years. While the prices started to weaken in 2013, it is for the first time in 13 calendar years that gold has witnessed shrinkage in price over the last year as it is already down by over 7 per cent year-to-date and is trading at Rs 26,900 per 10 grams in India. Going by the rising dollar trend and expectation of its further strengthening on account of an interest rate hike by the US Federal Reserve in 2015, it looks inevitable that gold may trade weak over the next few months at least. Therefore, while a decision to accumulate gold during this festive season may not be a bad one, it would make more sense to stagger your gold purchase over the next few months as the prices decline.

Trend in gold and its outlook

Though it went up by a couple of percentage points in the last week before hitting a 15-month low at $1,183 per ounce on Monday last week, gold is in a weak zone on account of a strengthening dollar that has dampened investor appetite for the metal. Bullion has dropped by over 14 per cent in the last six months from over $1,380 per ounce in March. Even in India, the price of gold (standard) in Mumbai has fallen by around 12 per cent from over Rs 30,000 per 10 grams in April to Rs 26,560 per ten grams now.

Since the dollar has an inverse relationship with gold, as it appreciates, investors move their investments away from gold and into the dollar thereby weakening the precious metal further. Experts feel that gold is on a downward trajectory globally and the trend in India will be in line with the global trend.

“Currently gold is being weighed down by the dollar strength and an expected high interest rate scenario in the US. It is on a downward trajectory for now and even in India the trend is likely to remain in line with the global decline as rupee has not depreciated much against the dollar,”said Rajini Panicker, head of commodities at Phillip Capital.

A stronger rupee against the dollar, having fallen by only around 2 per cent when other emerging market currencies have fallen by up to 16 per cent, means that the fall in gold prices in India would be in line with the global prices. A weak rupee would mean that the fall here may get pronounced.

There are others who feel that there may be a strong correction in gold going forward as the volatility remains high. “Everything is being driven by a strong dollar and I think the dollar will continue to strengthen and gold therefore will continue to weaken. While $1,200 is acting as a resistance, I think that it will break and in fact there could be a big move down in gold going forward,” said Jamal Mecklai, CEO, Mecklai Financial.

The weakness in gold may gather pace after the US Federal Reserve announces a hike in interest rates in 2015 as that would lead flow of funds back into US dollar thereby strengthening the dollar and weakening the gold.

A recently released report by CARE Ratings also outlines that the weakness in gold prices will continue though it may get some support from a rise in demand from China and India.

“Increased buying from China and India could provide some cushion for prices. Gold markets could also get some support from higher physical buying at lower prices and from investors who seek portfolio diversification. Nevertheless, the metal is unlikely to see a significant resurgence in demand and price in the near term and is likely to hover around the $1,200/oz range with a downward bias,” said Madan Sabnavis, chief economist, Care Ratings.

Other factors that may result in weakening of gold prices in India

As the current account deficit (foreign exchange earned through exports falling short of the import bill) worsened over the last couple of years, the government raised the import duty on gold in a bid to discourage gold consumption and thereby its import. While the import duty on gold stood at 2 per cent in March 2012, it currently stands at 10 per cent. In fact, in the eight-month period between January and August 2013, the government raised the import duty thrice from 4 per cent to 10 per cent following a sharp decline in rupee on account of the widening CAD and strong outflow of funds from Indian debt and equities markets. A hike in the import duty has lifted the gold prices in India by that much.

However, now, with CAD narrowing down to 1.7 per cent of the GDP in 2013-14 as against 4.8 per cent in 2012-13, a fall in crude oil prices and a stable rupee, there are expectations that the government may bring down the import duty on Gold over the next few months and if that happens, gold prices in India will come down further offering more relief to the prospective gold buyers.

“I think that the government should bring the import duty on gold down to 2 per cent again and if that happens then the prices in rupee terms will further come down,” said Mecklai.

What should you do?

Gold being a hedge against inflation will continue to hold its value in the long-term and therefore the decline in prices now should not dissuade investors from investing into gold. It should continue to be a part of your asset allocation (around 10 per cent). While a drop in the prices can be taken as an opportunity to invest for now, an expectation of a further drop in international gold prices and a cut in the import duty on gold in India may further weaken the gold prices in rupee terms. Hence, investors should stagger their gold purchase over the next few months, preferably through gold exchange traded funds where the initial mark up is low (brokerage and other costs) and there are no losses on making charges.

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