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Can Gold give good Returns?

Can Gold give good Returns?



Since the outlook for the metal is bearish in the short to medium term, make only token purchases this Diwali.

 

What will you buy on muhurat day? Will you stock up on equities or will you go for gold? To some buyers, gold might appear very attractive right now. The domestic gold price is down more than 18% from its all-time high of `33,265 per 10 gm recorded in August 2013.The past 15 months, in fact, have been devastating for gold investors. The price of the yellow metal has slipped, turning conventional wisdom on its head. Even now, analysts believe that gold faces headwinds that could take prices down in the near to medium term.

This is not good news for buyers getting ready for Dhanteras shopping. After all, their blind faith in gold had delivered handsome returns in the past decade. This changed last year, with gold churning out losses for investors who bought the yellow metal on the muhurat day in 2012 and held it till the 2013 Diwali. While the one-year loss on 2012 Diwali gold purchase was 4%, the loss till date from the 2013 Diwali gold purchase is 10%.

So, will you buy gold on Dhanteras this year? Experts say investors should give gold a miss this Diwali. Even if they want to buy gold for religious purposes, they should restrict their purchases to a small token quantity. Let us look at the global and domestic factors that are working against the yellow metal in the short and medium terms.

Strengthening dollar

International gold is traded in dollars, and if the greenback strengthens, the value of gold goes down. The dollar has strengthened 7% against other currencies in the past year. This is mainly because of fears that the US Federal Reserve will raise interest rates. International gold prices should fall by around 10% from current levels by March 2015.

Falling inflation

Gold is a good hedge against inflation and global investors get on the gold train only when they fear that inflation will go up. After fears of inflation, the European Union (EU) region is facing the threat of deflation, mainly due to the fall in global commodity prices. The international crude oil (Brent variety) is now trading at $83 per barrel, a two-year low. Most global agriculture commodities are also at multi-year lows. The inflationary pressure has ebbed significantly in the US as well.

Investors deserting gold

Investors have also deserted the gold market. The gold holdings of the SPDR Gold Trust, the largest gold ETF in the world, are down 44% from their peak of 1,353 tonnes in December 2012. They don't see any upside potential now from the current levels. Gold is no more in a buy zone. At best, it is in a hold zone. Domestic investors are also deserting gold because of the recent drop in price. The investors who bought gold above `30,000 are panicky. People shifting to investments such as stocks is another reason for this dull ness in the domestic gold market. "People are still buying small quantities of jewellery, but the demand for gold bars and coins has almost dried down. However, analysts don't see a major downside because the current price is close to the mining cost. "Gold has a strong support at $1,180 because the gold mining costs are around $1,150.

Faltering demand

The consumption demand for gold is down partly due to the government's restrictions on imports. Domestic demand may bounce back once these restrictions are withdrawn, but the demand slowdown in China, the biggest gold consumer, may continue. China has witnessed a moderation in purchases following the hectic buying in the previous year. This will be a drag on prices.

Rupee may not weaken significantly

The domestic gold price is down 18% from its peak, but the international gold price is down by 35%. The decline of the rupee against the dollar had cushioned the fall of gold in the domestic market. Though the rupee may weaken more if the US Fed raises interest rates, the impact will be limited because the RBI is better prepared. The rupee has remained relatively stable in the `60-62 per dollar range despite a significant jump in the Dollar Index in the past three months.

Import duty to come down

India's eternal love for gold is creating a major problem for its trade balance. The central government was forced to hike the import duty from 2% to 10% and impose physical restrictions on gold to bring this under control. These actions reined in gold imports and brought down the trade deficit to $6.12 billion in September 2013. While the import duty hike increased the landed cost of gold, the quantitative restrictions reduced the availability of gold in India and pushed the domestic price above the landed cost. However, this distortion is gradually ending because the government has reduced some of the restrictions. The domestic price of gold is now close to its landed cost.

The domestic gold price can fall by 8% if the government rolls back the import duty from 10% to 2%. However, the chances of this happening in the immediate future are remote. The easing of restrictions has led to a surge in gold imports. The gold imports stood at $3.75 billion in September 2014, a five-fold jump compared to $683 million during same month last year. The trade deficit in September 2014 also jumped to an 18-month high of $14.25 billion. This means the import duty of 10% may remain for some more time. However, the industry is hoping for duty cuts in the coming budget. Import duty may be cut from 10% to 7%

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