India stands next to China, when it comes to gold consumption as the two Asian economies accounts for more than half of the world’s gold demand. The World Gold Council noted that India is likely to buy close to 750 to 850 tonnes of gold in 2016.

India’s love for gold exists from time immemorial and is a barometer of a household’s wealth, prosperity and financial standing. Apart from this it is customary in India to accumulate gold jewelry and other ornaments for daughter’s wedding. This leads to unquenchable rush to buy gold right from the time a daughter is born in a family. Moreover, such gold buying behaviour is highly restricted to physical gold, i.e., gold jewelry and ornaments, nudging off the competitiveness of alternatives such as mutual funds and stocks.

The basic reason that motivates people to buy gold is merely the safety and guarantee attached to the asset. People strongly believe that it is only gold that will protect their financial future against an end number of external uncertainties, which is partially correct. But, does this age-old practice prove to be equally effective in today’s times? May or may be not.

For better understanding, let’s take a hypothetical example where Anand Prakash started investing in gold from 1996 for his daughter’s wedding, which took place in 2015. His younger brother, Arvind, who is more open to risks decided to invest in equity-oriented mutual funds and systematically switch to debt funds within three years of his daughter’s wedding. In order to simplify comparison, yearly investment amount of Rs 10,000 for an investment tenure of 20 years is analysed in this case analysis.

1) Historical Returns – Returns are key to analyse any asset class. To compare gold and MF performance, it is important to look at their historical track record over similar time frames. Table below helps to draw a comparison between gold and large cap mutual fund over a period of 20 years

S.No Year Gold Historical
Price/10G
Gold Returns MF Historical NAV MF Returns
1 1996 5160 0 10.10 0
2 1997 4725 -8.43% 9.03 -10.59%
3 1998 4045 -14.39% 11.94 32.23%
4 1999 4234 4.67% 35.63 198.41%
5 2000 4400 3.92% 19.64 -44.88%
6 2001 4300 -2.27% 19.95 1.58%
7 2002 4990 16.05% 29.08 45.76%
8 2003 5600 12.22% 80.59 177.13%
9 2004 5850 4.46% 109.93 36.41%
10 2005 7000 19.66% 174.03 58.31%
11 2006 8400 20.00% 214.36 23.17%
12 2007 10800 28.57% 316.50 47.65%
13 2008 12500 15.74% 118.82 -62.46%
14 2009 14500 16.00% 246.52 107.47%
15 2010 18500 27.59% 293.63 19.11%
16 2011 26400 42.70% 228.86 -22.06%
17 2012 31050 17.61% 330.53 44.42%
18 2013 29600 -4.67% 354.99 7.40%
19 2014 30688 3.68% 632.40 78.15%
20 2015 28199 -8.11% 675.47 6.81%
Asset Average 9.75% 37.20%

*Source – India Infoline

Findings are quite clear as large cap mutual fund overtakes gold with a wide margin of almost 27%. This implies that Anand’s yearly investment of Rs 10,000 would be worth only Rs 5,56,700 in 2015 while Arvind’s mutual fund investments had fetched him Rs 1.46 Crore.

 2) Safety – Gold ornaments or jewelry are physically held asset while mutual funds can be kept electronically. This means that a gold investor’s mind is often occupied with the fears and apprehensions about its safety. Anand’s gold ornaments kept at home were vulnerable to thefts and robberies throughout the investment tenure. On the other hand, Arvind was free from those worries due to extra layer of securities available to mutual fund investments.

  3) Liquidity – Although a gold investor can convert his/her asset into cash, but the process is not as easy as it sounds. In case of jewelry, an investor will have to accommodate deductions under labour charges and making costs. Further, many jewelers differ on the quality of the gold offered for exchange. For instance, many jewelers might not exchange gold for true value under the pretext of its purity. Thus, such a strategy could backfire at times of urgent needs. Conversely, mutual funds do not suffer these flaws and are easily sellable at market value.

 4) Future return potential – An investment cannot overlook vital elements that decide its future return potential. The vital element in this equation is inflation, i.e., any asset class needs to outpace inflation to be competitive in the market.

 According to historical records, average inflation between the year 1996 to 2015 had been 7.15%. From this perspective, gold with close to 10% returns is highly a languishing asset class compared to its counterpart mutual fund and fails to provide optimum cushion against inflation. Moreover, the scenario is unlikely to change in the forthcoming years as well.

 5) Costs Associated – There are several costs associated in maintaining physical gold. An investor has to make proper arrangements to store physical gold to protect it against theft and robbery. Like in this case Anand had to open a separate bank account locker for the safekeeping of his gold assets, which involved annual renewal and maintenance fee.

 Over and above this, the gold ornaments purchased by Anand during 90’s became outdated, which needed redesigning in accordance with his daughter’s choice. This forced Anand to incur additional costs towards re-making and re-designing of a substantial part of the accumulated gold ornaments that he purchased earlier. Fortunately, Arvind did not face any of these issues as he had the option to liquidate his investments and buy latest jewelry in accordance with his daughter’s choice.

 Summary

After comparing key aspects involved in any investment, it can be concluded that Anand’s investment choice had several shortcomings while Arvind’s decision gave him freedom to make the most of it. Although Anand’s gold valuation at 10% interest is Rs 5,56,740 in 2015 annualized, might be sufficient to fulfil the goal of accumulating gold for daughter’s wedding, it is nowhere near to Arvind’s jaw-dropping mutual fund valuation of Rs 1.46 Crore at 37% interest annualized. Arvind’s accumulated corpus is not only sufficient to buy gold ornaments but also leaves ample scope to fulfil other financial goals.

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Also Read:

Risk/Returns & Benefits – Debt Funds

Should you invest in Mutual Funds or Direct Equity?


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