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Gold prices have moved up around 3% to Rs 52,164 in the domestic market a week after the government raised the import duty on the metal by 5% to 12.50%, with the effective duty at 15%, including the 2.5% agri cess. The hike was done to check the ballooning current account deficit amid rising imports of the yellow metal which spiked to $2.61 billion in June this year from $969 million a year ago.

The increase in customs duty on gold is also reflecting in the trading prices on exchange and the net asset values (NAVs) of gold exchange traded funds (ETFs) of mutual funds as the underlying asset of gold ETF is physical domestic gold prices and this increase in custom duty has increased the price of gold ETFs, too.

Investing in gold ETFs
In such a situation, what should investors of gold ETFs do?
Investing in gold ETFs has gained momentum as investors have realised the importance of holding the metal in their portfolio during volatile times. The folio numbers in gold ETFs surged to 46 lakh in June this year from 16 lakh in May last year, an increase of 2.9 times. In fact, after having witnessed outflows during the first two months of this calendar year, gold ETFs reported net inflows of Rs 203 crore in May and Rs 135 crore in June, data from Association of Mutual Funds in India show.

A Credit Suisse note says gold ETFs saw inflows amid risk aversion in risky assets and macro-related worries. “The risk-reward appears well-balanced for gold. On the one hand, aggressive rate hikes could weigh on the gold prices, while on the other hand, recession fears will likely support gold on the downside,” it notes.

Gold at the time of currency depreciation
Gold ETFs have delivered 7% returns in the last one year as compared with 1.9% in large-cap funds. Most of the gains came from the depreciation of the rupee against the US dollar and the recently imposed import duty. Experts say the currency depreciation will help gold and will be an ideal investment option to withstand volatility in the equity and fixed income markets.

Harshad Chetanwala, co-founder, MyWealthGrowth.com, says present uncertainties like rising inflation, rising interest rates, geopolitical issues and regular news about a recession can increase the demand for gold as it tends to do well during crises. However, one should look at their exposure to gold based on present asset allocation and add gradually if they are required,” he says.

Kavita Krishnan, senior analyst, Manager Research, Morningstar India, says gold is seen as a good investment avenue, and as a hedge against market downturns. “When it comes to gold, the price movement depends on factors like the direction of the US dollar, interest rate and inflation among others. Investors are likely to continue to invest in gold ETFs as a means to diversify their portfolio and hold Gold ETFs as a hedge against market risks,” she says.

Asset allocation
Experts say gold plays an important role as a diversifier in a portfolio due to its low correlation with other asset classes and is seen as a safe-haven asset in times of global risk-off sentiment. Ideally, investment in gold ETFs should be done in a staggered manner and investors must note that if the government lowers the import duty on gold in the future, it will pull down the price of the metal and lower the NAV.

Chetanwala says gold investment should be looked at from an asset allocation perspective and not as an investment which can be bought and sold regularly. “Ideally, 5-10% of allocation in gold should be done depending on the appetite and profile of the investor,” he says.

Gold ETFs score over others due to factors like transparency, liquidity and nil storage charges. Gold ETFs are open-ended mutual fund schemes and one must have a demat and trading account with a broker to invest in gold ETFs.

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Author: Howard Caldwell