Would equities do well as gold loses sheen? - Outside View by PersonalFN

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Would equities do well as gold loses sheen?
May 2, 2013

As many of you may have witnessed, after beginning the year 2013 on a positive note in January 2013 (with gains of +2.4% on absolute basis) the Indian equity markets have depicted a descending move (-2.9% on year-to-date basis) with host of factors in play such as:

  • Downbeat domestic economic data;
  • Non-populist Union Budget 2013 (aimed at walking tight on the path of fiscal consolidation);
  • Global headwinds; and
  • Uncertain political environment
Being concerned about the aforementioned factors in play redemption pressures too have been on rise for Domestic Institutional Investors (DIIs), thereby they turning net sellers in their activity.

DII Activity
Data as on March 28, 2013
(Source: ACE MF Research, PersonalFN Research)

In fact every up-move of the Indian equity markets after a corrective have been used by investors to exit from their equity mutual fund schemes and / or Unit Linked Insurance Plans (ULIPs).

But in the recent past with recent slump in prices of gold, equities have garnered attention of many investors thereby resulting in it to show sharp inverse correlation between the two asset classes (see chart below). It is noteworthy that in the last seven trading sessions, equities have gained +3.3% (on an absolute basis), while gold has descended by -12.5% (on an absolute basis) thereby losing its sheen.

S&P BSE Sensex vs. Gold
Base Rs 10,000
Data as on April 18, 2013
(Source: ACE MF Research, PersonalFN Research)

So, are equities likely to do well vis-a-vis gold?

PersonalFN is of the view that for equities to perform better vis-a-vis gold, domestic economic data needs to exude confidence. While the Q3FY13 Current Account Deficit (CAD) data came in at 6.7% of GDP and brought in concerns for the market; drop in prices of Brent crude oil and gold (which are major import items for India) in the recent past is likely to bring down CAD figure for Q4FY13. Likewise, with the Government likely to have a final cut in its fiscal deficit target to 5.0% of GDP for year 2012-13 (led by marginal surplus in revenue collection and a lower expenditure than given in Government's official revised estimates (RE)), the outlook for the fiscal deficit target of 4.8% for the year 2013-14 now seems achievable. This in turn would ebb pressure over the issue of twin deficit problem. But it is vital to see how the fiscal deficit target for the present fiscal year is indeed achieved, because if the Government takes any populist measures ahead of general elections scheduled next year and economic growth does not reinvigorate, it could pose to be a challenge. At present the industrial activity appears uninspiring with a 'see-saw' movement depicted by the Index of Industrial Production (IIP). While the Reserve Bank of India (RBI) has made attempts provide impetus to growth by lowering policy rates and reducing CRR to infuse liquidity, thus far it hasn't aided in imbuing much confidence. In the 4th quarter mid-review of monetary policy 2012-13 (held on March 19, 2013) the RBI signalled that that headroom for further monetary easing remained quite limited; but now since WPI inflation has mellowed down to 5.96% and other macroeconomic indicators to seem suggestive, the markets are expecting a rate cut, which the central bank may oblige after closely monitoring the developments for the sustainability of the newly emerging trends. Hence PersonalFN recommends investors not to speculate ahead of any policy action.

The recent rally in Indian equities seems to be short-covering along with investors becoming less risk-averse and shifting from gold to equity. But going forward much would depend upon the global economic environment - especially headwinds from the Euro zone; as they are paining with a situation of debt-overhang, dismal economic growth and bleak signs of economic revival. The U.S. economy at present is depicting signs of economic vigour and thus the Dow Jones Industrial Average (DJIA) index has gained +11.0% on YTD basis, while on the other hand the precious yellow metal has lost its sheen. It is noteworthy that according to EPFR (the agency which tracks fund flows into markets worldwide), money managers at present are evincing interest in developed economies as global funds have invested nearly U.S. $66 billion in developed equity markets (sending the American and Japanese indices to record highs in recent weeks), while they have pulled out U.S. $951 million from India in the first quarter 2013 and about U.S. $777 million overall from BRIC (Brazil, Russia, India and China) economies. Also with other Emerging Market Economies (EMEs) being on investment radar of foreign institutional investors (FIIs) for host fundamental reasons, foreign investors are allocating assets in such economies, which in turn has led to reduction of India's share of foreign flows.

In the backdrop of the above where economic uncertainty yet prevail both in global as well as domestic economy, Indian equities could be vulnerable (although they have depicted an up-move in the last seven trading sessions).

Hence PersonalFN is of the view that one must allocate towards gold the smart way, as the catalyst thereto seem evident (in the backdrop of economic uncertainty yet prevailing) which would encourage smart investors to view the precious yellow as an asset class than mere commodity, which in turn would keep the long-term trend for gold intact until economic uncertainty recedes. You see, one needs to recognise that gold acts as a store of value, reserve currency, hedge against economic pressures and a portfolio diversifier. Whatever your risk appetite is, Gold should always form an integral part of your portfolio; while the debt and equity portion in your portfolio may change according to the changes in the broader market risk as well as your risk appetite and nearness of the goal for which you made your investments. PersonalFN believes that, you should consider your investment horizon and accordingly allocate 10% to 15% of your total portfolio towards gold. Remember, gold is not an instrument to make quick money but a solid long term asset and hence you should ideally invest in gold with a longer investment horizon.

PersonalFN is a Mumbai based personal finance firm offering Financial Planning and Mutual Fund Research services.


The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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