As investors, we need money and Gold which is an important prospect for us. But it can be a frustrating investment to own as it is a tough asset to value, and a lack of knowledge of where the gold price is headed can lead to a huge loss of money. So it is important for us to understand the market of gold. As me move forward we shall analyze the factors affecting gold prices, what motivates people to buy gold, its recent trends and future prospects.
Factors Affecting Gold Prices
It is important for us to understand what factors affect the prices of gold before we move forward in making an investment into it.
1) Inflation: inflation is one of the most important factors affecting the price of gold. Inflation tells us where the prices of goods are heading and gold directly correlates it i.e. the price of gold increases with inflation and decreases with deflation.
2) Interest rates: Interest rates are another important factor affecting gold prices. During high interest rates capital available with people is scarce. Therefore demand of gold decreases, hence the prices of gold comes down.
3) US Dollar: Gold prices very much depend on the US economy factors like balance of payments, balance of trade, US debt, its GDP and how dollar is affected by them.
a. Balance of payments, balance of trade: These factors tell us on how much deficit a country is facing. If US are facing sustainable periods of deficit it leads to devaluation of its currency, thus leading to decrease in the value of dollar and thus affects gold prices.
b. US debt: If US owes a huge amount of debt to other countries say in the form of treasury bills, and the debt becomes unmanageable, then countries dollar will lose its credit. It will lead to rise in inflation and consequently increase in the prices of gold.
Motivators in buying gold
The main reason for buying gold is that people see it as a hedge against inflation. It is considered a safe asset as gold is the only investment that pays you well when economies face turmoil and when the stock markets aren’t performing well. Investors mostly consider the local factors as a source of influence while investing. The same is their attitude towards investing in gold. The only difference is that gold is actually an International commodity, priced in dollars which is heavily influenced by the international market scene.
Explanation of the recent trends in Gold Prices
Recently the prices of gold in April-June 2013 have seen a fall in the international markets which led to increase in demand from Indian and China, the largest consumers of gold (jewellery). Globally, jewellery demand was up 37% in Q2 2013 to 576 tons (t) from 421t in the same quarter last year, reaching its highest level since Q3 2008. Though demand for jewellery was up, but overall demand for gold was down 12% on a year ago. The decline in demand was owing to global world economy not doing well and people not having liquid money to invest in gold.
Recent trend of Gold prices in India:
The above chart shows the movement of gold prices in terms of dollars. It clearly shows that gold has peaked out somewhere in Aug 2011 when it touched $1926 per ounce, since then we did not see the same price again.
India is very closely connected to the world economy. Hence, there is no escape from its impacts. Gold is purely an international commodity, priced in dollars unlike equity markets which are directly affected by both international and domestic factors. Gold has more linkage to the international factors. The gold rates in India are no longer determined by demand as the international market acts as a bigger driving force when it comes to determining the gold prices.
On the other hand, the chart above indicates that gold prices in India peaked out somewhere in November 2012 at Rs 34000/- per 10 gram. So at a time when internationally gold was falling, dollar prices led to the rise of gold prices in India.
The chart above illustrates that in Aug 2011, a time when internationally gold was at its peak, INR stood at 45.74 against the Dollar. After that gold prices started sliding but INR vs Dollar starts rising. We can see from the graph that in India the gold prices had increased though internationally the prices of gold decrease. Thus we can say that the depreciation of rupee has a greater impact on the rise of gold prices than decrease in gold prices internationally.
The recent news of Fed maintaining its $85 billion monthly asset buying program implies that the Fed is pumping more dollars into the world market. This will lead to depreciation of the value of dollar. People will look for an asset which can be a substitute for dollar. Since gold is a rare commodity, it has less counter party risk and people have valued it a lot in the past, thus the demand for gold is going to increase. Fed has not defined any period for pulling back its stimulus which means gold will follow a rise in prices till a stimulus is available and money is available for people to buy.
As for the Indian scenario, we can say that it largely depends on the value of Indian rupee against the dollar. Indian rupee strengthened against dollar when Fed announced to continue with the stimulus package. But with low GDP growth this quarter and elections coming up, we can expect the rupee depreciating further which will lead to rise in prices for gold.