We are an Equity fund house. We will not be buying Gold in portfolios. However, I would like to share my understanding of why Gold prices are doing well and why they should continue to do well.
Gold has no attraction to fundamental investors as it generates no cash flow. However, Gold has served as a store of value. Here is the empirical evidence.
- Gold does well when real interest rates are low when its zero yield was not a disadvantage. This typically happens during times of financial repression.
- Culturally, this store of value has had appeal through generations, especially for Indians.
- Central Banks also keep a share of their FX reserves in Gold.
Prices are a function of Demand and supply. Gold is getting support from multiple tail-winds for demand.
Its appeal to Central Banks has increased enormously.
The US for long periods ran deficits and issued Bonds to fund these deficits which foreign Govt’s, including ours, happily lapped up. As there were buyers for their Bonds, interest rates remained low, fueling a virtuous cycle.
In 2013, China first realized that its biggest geopolitical rival cannot be its largest Debtor. It started diversifying into Gold more aggressively.
In 2022, the US blundered in freezing Russian reserves in response to the invasion of Ukraine. The message that this sent to all Central Banks across the world was that their reserves in USD were not safe. And then were perhaps not safe in any currency if they could be seized.
We have since then seen a significant increase in Central Bank purchase of physical Gold. And Central Bank holding of Gold as % of their physical reserves is very low compared to the 70s. China and Russia have less than 25% of their Reserves in Gold, India is less than 10%.
Gold has immense appeal to Chinese retail buyers
A Chinese retail saver has no avenue to park Assets. Both Real estate and Equity markets are collapsing and yield on debt is low. Gold therefore is an attractive alternate. Physical Gold in China is trading at a premium.
Real interest rates in the US will be low increasing the allure of Gold
Debt/GDP in the US has exploded. They are running a deficit of over 6% (4 Trillion USD) despite an economy doing very well and this is projected to remain high. The US is behaving like an emerging market economy. Debt/GDP is very high and high interest rates run the risk of pushing them into a vicious cycle. They cannot print money to fund this deficit (as that will cause inflation) and other Central Banks are not lining up to buy their Debt. They need a fiscal adjustment, but cutting spending will be difficult as they make the Green transition and defense spending will remain high.
The US Fed is in a trap. It may have to cut rates/keep rates steady in a strong economy despite higher than comfortable inflation.
We believe Gold will do well and has a role in a diversified portfolio. We will not be buying Gold in portfolios (we are an Equities fund house) but will be happy to speak to you and walk you through options you could use to invest in the same