Investing in gold is a must for every Indian. Everyone loves this precious metal. Not just in India but the world over. But we just love it more. Indians have been the largest consumers of gold until March 2014 when China took us over. Gold has been the trade medium/currency for a long time. So it makes it pretty easy to calculate the historic returns from gold.
I just had an argument with my wife (Not serious .Sorry to disappoint you ) . It was about buying a gold ornament for my daughter. I was not willing to do that now and said we can buy later. She tried to convince me saying ‘Gold is good investment option and will give good returns always. It has fallen by more than Rs.250 per gram’. Women (especially your wife) have great tactics to exploit your weakness once they get to know you. I’m writing this post to show her she is wrong. You can also use it in argument your spouse/mother/friend. Good luck!
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Gold Returns – A historic study
Let me start with a bomb. Gold returns have been just 3% CAGR over last 160 years. You heard me right. Just 3%. Gold was trading at US$19 in 1850 and traded at US$1,750 in 2011. All the central banks of the world keep large reserves of Gold. When their economy is under stress, the nation resorts to selling its gold to raise cash. China did so in 2008 and 2011. India did the same in 1990.
Gold/silver is an international metal and universal trade commodity. So even if one country is under turmoil, it’s believed some other country/firm will be ready to buy gold. Famous commodity gurus like Jim Rogers and George Soros have invested in gold. They use sophisticated investment techniques to justify/make decisions.
Gold gave an incredible return of 2300% from 1971 to 1980. Can you believe it? 2300%(Source: National Mining Association). If you invested 1,00,000 in gold in 1971 and sold in 1980 you would’ve got 23,00,000 as profit. That’s incredible. Isn’t it?
But again if you had bought Gold in 1980 and sold in 2000, guess what return you got. 500% or 5000%? Take a calculated guess. The answer is minus 65%. Yes. Gold returns were a negative 65% for 20 long years. Gold traded @ US $ 890 in 1980 and sold for US$ 390 in year 2000. In addition to this you had storage cost, security which added to the negative returns. Again from 2000 to 2010 it almost more than tripled. Gold had a spectacular rise from $390 in year 2000 to US $1750 in 2011.
From the below table you can see that Gold has not given smooth returns. It had performed with pockets of brilliance from time to time.
|Year||Gold Cost (in US$)|
The Greater Fool Theory
Earlier, men made trade with gold as exchange medium. However, after the invention of currency we all deal in currency and not in gold. Gold has lost its relevance after that and has no real value other than perceived future higher price. The modern rise in price of Gold is primarily attributed to the Greater Fool Theory.
As per this theory, one buys/does something in the belief that there will always be some one to buy at higher price in future. In exact words ” The greater fool theory states that the price of an object is determined not by its intrinsic value, but rather by irrational beliefs and expectations of market” .Why do we buy Gold? Because we think the value of gold will keep rising and someone will buy it at a higher price in future.
Gold does not have usage on its own. It is used in jewels/ornaments. Other than for jewels, gold does not have any industrial usage. The price of all commodities or metals is decided based on demand-supply philosophy.
Supply – Demand = Inventory.
More the inventory lesser the price. Lesser the supply, more the price. Take steel or Aluminium. When there is a downturn in the economy the prices of all these metals goes down and vice-versa. On the contrary, gold goes up.
People think gold as protection from recession. Central banks around the world have tons of gold lying as inventory. Consider the scenario, when central banks start to sell their gold into the economy. The price of gold would fall like a pack of cards.
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When & how should you buy gold?
When all investors and banks begin to think rationally, gold will no more be attractive. But that is a highly unlikely scenario. We know that as long as humans have greed and fear, there will be irrationality.
And as long as irrationality exists, few assets and returns will defy logic. So when or why should you buy gold? You should buy gold for the following reasons
- Buy gold for fashion/jewel purpose – have your own limit
- When you want diversification. Make sure gold does not go more than 10% of your asset allocation portfolio
- More than physical gold, try to buy other forms of gold. Check out our post on different options to invest in gold
- You’re unwilling to explore other investment options like equity, bonds
So from 1971 to 2011, we see that the return from Gold has been around 10%. So do you still have the notion that Gold is a great investment? Gold is just like any other investment. Gold returns has its ups and downs like all assets. No investment or asset class can give you positive return all along the way. Remember, 90% of an individual’s return is decided by optmizing asset allocation.
So lose your mindset that Gold will always keep going up . We have given you the perfect excuse to escape the next gold shopping adventure. I’m now going to show this to my wife. Sure, you can show too.
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