Long term Gold chart movements linked to Historical events

Warren Buffett does not invest in gold because the yellow metal provides no returns. But he is in a league of his own. Mere mortals like us can only aspire to be like him.

It makes eminent sense for small investors to include gold as a part of their asset allocation plans. Gold does provide a hedge against inflation and a falling currency.

Indians buy gold in physical form - mainly as jewellery, but sometimes to turn their dark-coloured money into a brighter shade. A better way to invest in gold is to buy gold ETFs or gold funds.

So, is this a good time to invest in gold? Have a look at the interesting long-term chart of gold compiled from Rosland Capital's gold-based IRA page and decide for yourself:

Given below are the events and the corresponding gold prices:

Why you should include gold in your investment portfolio – a guest post

For most Indians, buying gold is a no-brainer. Gold is bought for the family deity. It is bought for a daughter’s wedding and for the wife on a wedding anniversary. It is bought on Dhanteras, and on Diwali. Having significant amounts of gold in one’s possession is a sign of great wealth and status.

But is gold a good investment? Sure, the price of gold has appreciated over the years. But it doesn’t provide any regular returns. Equity shares provide dividends, rights and bonus shares. Plus, they can be redeemed quickly for cash. Redeeming gold for cash is cumbersome – though many NBFCs now offer easy gold loans.

The debate should not be about equity vs. gold. Logically, equity is far better as an inflation-beating investment. However, that does not mean one should not include gold as part of an asset allocation plan. In this month’s guest post, Nishit builds the case for including a small percentage allocation for gold as a hedge against inflation.

-------------------------------------------------------------------------------------------------------------------------------------------

Gold’s price is back where it was in July 2010 in US Dollar terms (at about 1200-1250). In July 2010, the Indian Rupee was about Rs 47 to the US Dollar and now it is around Rs 61.

While investment focus should be on equities, it is always better to have 5-10% in Gold as a hedge against inflation. People talk about Rupee going back to 47 levels but that will make exports uncompetitive and it remains to be seen if Rupee actually appreciates that much.

Historically, Rupee has always depreciated against the Dollar. With global markets showing signs of weakness, Gold can also be a hedge against equity weakness if any. While I do not believe that the Indian markets will have a drastic fall, it is always good to have a hedge.

Interest rates also show signs of weakening and Gilts are another good option at the current juncture. Gilt funds make money when interest rates drop. With weak diesel prices, inflationary pressure will lessen.

Investment in Gold can be in the form of Exchange Traded funds, physical gold or even jewellery (if one wishes to enjoy the gold while using it as a hedge). There are talks of import duty being cut on Gold in the forthcoming budget.

Asset allocation at the current juncture can be 90% Equity, 5% Gold and 5% Gilt funds. When gold was at its peak at almost US $1900, the risk-reward ratio was unfavourable for buying any gold. Now, it has corrected almost 33% from the top and almost 55% of the rise which started in 2008.

In US Dollar terms gold can correct another 10% or so. One cannot catch exact levels but it is safe to start accumulating gold.

The promise of “Acche Din” is here and I see no reason why India will not see glory days ahead, but it is always good to buy insurance for a rainy day.

If interest rates go up for some reason, or if the global economy weakens further for some reason, equity and Gilt funds will go for a toss. At least gold will cover up some of the losses.

-------------------------------------------------------------------------------------------------------------------------------------------

(Nishit Vadhavkar is a Quality Manager working at an IT MNC. Deciphering economics, equity markets and piercing the jargon to make it understandable to all is his passion. "We work hard for our money, our money should work even harder for us" is his motto.

Nishit blogs at Money Manthan. You can reach him at nish.stockid@gmail.com)

Notes from the USA – a guest post

Of late, reports coming out of the USA point to a jobless economic growth rate that is lower than the rate of Quantitative Easing, low inflation, greater propensity to pay off debts and add to savings, a ‘sequestration’ that may cut government jobs and benefits. In other words, not a drift down into another recession, but certainly slower than healthy growth.

In this month’s guest post, KKP provides a ‘ground zero’ view of the state of the US economy from the point of view of a consumer and investor, and strategies that he is adopting to negotiate the likely pitfalls in the days to come.

-------------------------------------------------------------------------------------------------------------------------------------------

Macro Economics from the US

It’s time we look at the forest from the trees and evaluate where we are going….

From a bigger picture of our global economy, we heard a lot of buzz on the bearishness of Emerging Markets, which started with the corrections in China and Brazil, followed by India and other countries in the developing markets. Of course, one cannot avoid the negative buzz on gold also, where brokers and analysts are piling on with a feeling of relief that gold/silver/platinum are finally correcting after huge run-ups.

For equities and gold, the underlying theories that people talk about are based on lots of media and print accounts (whether true and not) that are driving part of market behavior.  Lots of those accounts cannot be proven, and there are often 'opposites written up' that counter those theories.  So, as investors, how do we decipher all of that stuff? The simple answer is: ‘charts’. Conspiracy theories have been going around for a long time, talking about what Obama is secretly doing and how the US Gold ETF vaults are filled with zinc bars coated with fine gold foil. Don’t believe any of it, and don’t even waste a lot of time investigating it, since price discounts almost 99.5% of those theories.

All of those stories are like the health care news that come out talking about "goodness or harm of caffeine", "goodness or harm of artificial sweeteners", "goodness or harm of weight loss with a protein filled diet" etc. I am a health-nut now, and read all of it. When you do, find out both sides of it, and there are usually caveats on BOTH sides of the equation, and without those caveats, it is “information out of context” (like you hear about what spouses do to their better halves!).

So is the case with Gold Bulls and Gold Bugs.  There are two sides of that gold coin! In a bull market forums print all of the positives and ride on the wave, and now that we have a correction (not a crash), we have the opposite side of the story being printed.  In BOTH cases mind you, we are trying to justify.  Why?  Because we are humans and like to justify the emotional behavior of the masses.

Best approach is to look at the macro element of gold and recall the folks talking about the extremes: gold is a useless investment instrument - all the way to gold being the currency of choice by 2020. The ride from $300 to $350 to $250 to $500 to $750 to $900 to $1100, back to $900 and then off to the races to $1900 (fast forwarding) proved this fact, and now it is the turn of the nay sayers to remind us that gold is a useless investment instrument. In Fibonacci terms, we are seeing the correction after the huge move from $750 to the $1900 levels, back down to one of the support levels. Being that gold holds a high beta, we might see a correction to $1000 (or the nearest support), to shake off the weak holders. Very simply, the correction that we need in any big move is now happening in gold, and we are justifying it with rationale that it is because we will not have inflation or hyper-inflation, or Obama is doing really well, or Central Banks are starting to unload, or the US Govt has started to sell gold in massive quantities.

Let’s get to US equities now. One needs to look at the USA as a “stock” and understand that this stock is generating Revenue, has Debt and Expenses, results in Net Income/Deficit and has issues related to Growth, Loss of Market-share and "Free Money" handouts.  Once we analyze this and realize that this is not a good “stock” to put money into, we get to understand that this is not a “stock” that one should count on long term unless it goes through a major restructuring of some kind. Put that into the perspective of lower job growth and early retirements, and you will start to understand the loss of Super-Power or  Monopolistic status of this “stock”. It is like GM or Chrysler from their hey-days. With Obama being the current CEO of this “company”, with responsibility for increasing the debt to the HIGHEST level ever relative to any other CEO in the history, one has to wonder what has he really accomplished with $6 Trillion in debt, or what is he going to realize from that debt in the next 3 years. $6 Trillion of additional debt can run entire economies of over 100 small countries.  Well, has he got the results to show in the USA? In my opinion, he let the US float and not sink, but the Titanic still has a crack in it and water is pouring into the bottom of the ship, albeit a bit slower than 2008-09-10.  With this being a known fact, how much of our portfolio do we want to ride on this optimism?

USD plays a very critical role in part of the sell-off in Gold.  The fact that shale oil might strengthen the USD in future is a potential strong variable that is predicting the upward move in USD and hence a downward push to the metals (inverse relationships). In fact, while all of that talk on oil is going on, we are paying above $4 per gallon of gas in the US (this week), which is higher than what it has been for months!

Gold is very widely considered as an inflation hedge, as well as a hedge against risk of the unknown. In reality, inflation is already here, although headlines in US newspapers will not agree.  We might not have hyper-inflation in the traditional sense of economic definition, but it is hard to understand why cost of grains, cereals, construction materials, tools, contractors, auto-parts, repairs, paint, utensils, electrical goods, decor, some clothing, furniture etc have all gone up every year for the last 5 years.  I measure these things by roaming around the stores quite a bit to get a first hand sense of it.   For example, I just bought a new property and got it fixed up (Jan 19^th to Apr 28^th).  I had to buy lots of materials, and I almost paid 2x of what I paid 3 years ago in the US.   And, for each property I buy (every 4-5 months), prices keep going up, and hence I now have a storage shed, where I buy and store materials when they come at a deep discount (dry wall, 2x4 wood, nails, screws, paint, doors, glass, screens, handles, shower-heads, faucets, glue, caulking etc).  I used to buy paint for $10 to $20 and now it is $30 to $40 per gallon, in just 3 years timeframe.  I have almost 34 gallons of paint sitting at home for the next job, and it will only last me one home, so I am still collecting and buying more.  Today, I bought 31 boxes of cereal based on an introductory price by a new chain of products introduced. These are prices that I used to pay in 1996-99 and I loaded up on it, and stored it in a well maintained temperature zone. How is this inflation going to play out in the next few years? And, what are you doing about it for your own personal situation?

Finally, EU and US still have 'structural issues'.  As soon as we get back to facing these head-on, we will once again have reasons to get out of Equities and back into Bonds, Cash, Gold, Silver and Platinum safe havens.   In the meantime, personally, I am going to continue to acquire of bit of gold and silver as “option” contracts as I have been doing, which allows me to invest small money with huge leverage (expiration 2015) in the US.  Risk of holding option contracts is limited to the premium paid, but the upside is huge, and can be converted into gold ETF shares at contract expiration. I still hold the view that we can see $1000 at the low in Gold (as I have for 3 years or so), but it is yet to be seen how gold reacts to its lower support levels based on the economic forecasts unfolding.  The possibility of it going to $1000 is less than 50% now (based on the recent correction), but I could be proven wrong, although I would be glad to double my position in gold at $1000, if it gets there.   In the meantime, equity markets in the US can go up temporarily, but with IBM and Caterpillar breaking some bad news and showing structural damage, Apple sinking to the $400 levels and the upcoming summer (“sell in May and go away”), the likelihood of Dow going to anything beyond 16000 is unlikely. A correction mode is around the corner (as seen in the RSI/STOC divergences and the Volume shrinking on up-days) in another 2 weeks to 2 months and it might affect the global markets in a similar manner (bearish). The ‘Sell in May’ theory is about to be proven right although the moving averages and price points have not shown clear signs of a break down as yet!

Bottom line, the macro picture shows that markets are climbing the proverbial wall of worry and has done a good job of doing that in Q1’13. Gold, which was overvalued, has done a good job in finally correcting (been expecting that correction for a while), and now, it will be the turn of equities to show its last hurrah by either going up to Dow 16000 or just going down from here into the summer. Hence, gold and equities might be good to buy in the correction mode this summer, and until then just trade in and out, or hold onto to your dry-powder until things settle down.

-------------------------------------------------------------------------------------------------------------------------------------------

KKP (Kiran Patel) is a long time investor in the US, investing in US, Indian and Chinese markets for the last 25 years. Investing is a passion, and most recently he has ventured into real estate in the US and also a bit in India. Running user groups, teaching kids at local high school, moderating a group in the US and running Investment Clubs are his current hobbies. He also works full time for a Fortune 100 corporation.

Gold and Silver Chart Patterns: an update

There is an old stock market saying: When in doubt, stay out. But in current politically and economically turbulent times, investors appear to have created a new maxim: When in doubt, buy gold (and silver).

Gold Chart Pattern

Gold is being bought as if the financial world is going to collapse tomorrow, or latest by next week. What else can explain a vertical $200 surge from 1700 to 1900 in the two weeks since my previous post?

Admittedly, there is sovereign gold buying, and Venezuela created a flutter by planning to repatriate $11 Billion worth of gold held in overseas banks. The sorry state of Eurozone banks is a major concern. But ask yourself: Is the global economy in a worse situation than it was in 2009?

One can debate the state of the global economy till the cows come home. The bottomline is that the parabolic rise in gold’s price over the past couple of months is unsustainable. The chart is looking extremely overbought, with the 14 day SMA (as well as the 30 day and 60 day SMAs – not shown in the chart above) climbing away from the rising 200 day SMA. A sharp correction, if not a crash, is around the corner.

If you are an investor who would rather buy gold (instead of Colgate or ITC shares), use the likely dip to buy gold ETFs. My preference is for the hefty dividends that Colgate and ITC shareholders receive – not to forget the occasional bonus shares.

Silver Chart Pattern

After a four month lull, during which silver’s price went through a decent correction, prices have risen sharply to touch the 44 mark. I had recommended that investors use the recent dip to buy, or to wait till the 42 level is crossed convincingly.

If you missed out on the buying opportunities, wait for a likely pullback towards 42 to enter. The 14 day SMA is turning upwards. The 200 day SMA didn’t stop rising right through the four months of price correction. The bull market in silver is alive and well.

Is this a good time to buy stocks/funds/gold?

Many small investors must be thinking about this question. Anecdotal evidence from the emails and comments I receive suggest as much. The answer is quite simple: It is a good time to buy if you have the money.

Experts will tell you that timing the market is not a sensible approach to investing. It is how much time you spend in the market that counts. That is because most small investors are happy to book small profits, and miss out on the big profits that can be made by holding on for the long-term.

So, why is Jim Rogers, an acknowledged guru of the commodity markets, advising caution about buying gold; and ace stock market investor, Rakesh Jhunjhunwala, suggesting that it isn’t time for bottom fishing yet? Why this apparent contradiction?

The dichotomy arises due to the different viewpoints of two different groups of investors. For the multitude of inexperienced retail investors, timing the market is not recommended. They just do not have the knowledge to put together all the little pieces of a vast economic jigsaw puzzle. Professional investors like JR and RJ know what they are doing, and can go in and out of markets with surgical precision.

When our Finance Minister said that the recent fall in stock prices was a result of western disturbances and had nothing to do with India, he was deliberately speaking a half-truth to try and prevent a bigger crash. Why? Because uncontrolled inflation and consequent hikes in interest rates had already slowed down the profit growth of India Inc., and pushed the stock market into a down trend.

Resolution of the economic crisis that gripped USA and Europe through tough policy measures by central banks was postponed by rounds of quantitative easing and bailouts. Now the sovereign debt problems are coming home to roost.

Global stock markets, India included, had a heady rise from the bear market lows of Mar ‘09. It is time for a reality check, and the picture isn’t pretty. No wonder gold prices are shooting through the roof, as fearful investors are dumping stocks and funds to buy the yellow metal.

The good news is that the Indian economy is in far better shape than those of the developed countries. Growth has slowed, but remains strong. However, inflation is still rising. Another couple of rounds of interest rate hikes are almost a given. That means more pain for investors in stocks and mutual funds in the near term.

But, as I mentioned in the beginning, if you have the money and a long-term view, this is a good time to buy. Don’t bet the barn. Invest 20% of your available surplus every month for the next 5 months. Things should start improving by then. Avoid individual stocks if you haven’t mastered stock-picking skills. Split your investments between a good balanced fund (like HDFC Prudence or DSPBR Balanced) and a good large-cap fund (like HDFC Equity or DSPBR Top 100).

I’m not a great fan of buying gold, because it gives no regular returns. The flight to gold is assuming panic proportions, and panic buying leads to severe corrections. If you must buy gold, buy a gold ETF during the next price dip.

Related Posts

"Time in" vs. "Timing" the market

Should you invest in Balanced Funds?

Gold and Silver Chart Patterns: divergent directions

Notes from the USA (Apr 2011) – a guest post

Nowadays, it seems like every investor has only one tune on her lips – the chorus from Shirley Bassey’s title song from the James Bond movie ‘Goldfinger’: “He loves only gold; only gold; he loves gold”!

When every one and his brother-in-law are excited about investing in gold, it is probably a good time to take some profits, or, at the very least, refrain from buying. KKP sounds just such a note of caution in this month’s guest post. If you enjoy reading this post, and/or disagree with him, please take a few moments to let him know (by using the ‘comments’ link below this post).

-------------------------------------------------------------------------------------------------------------

A Gold Rush or Just Gold Mania?

Gold and Silver have been on the top pages of many trade magazines; now it has started to appear on normal (lay people’s) magazines. The above graphic is from Newsweek…..When articles appear in abundance on magazines for the layman, it usually signals a market top or bottom of the underlying asset class. It is the peak of emotion that gives the final ‘uumph’ to the underlying asset class, and marks the top or bottom. Gold and silver are approaching such levels, leading to possible corrections. So, what actually happened?

The Dollar Index slipped to 73.735 on April 21 (and again lower on April 27), the lowest since August 2008, which really is fore-telling that the confidence in the US dollar is fading. So, is the move in gold completely a reflection of the dollar’s under-performance? Yes. Correlation has been uncanny this year - U.S. Dollar Index has fallen 6.3% since the end of last year while gold bullion has risen 6.2%!!!

Silver has more than doubled over the past year as investors rode after silver as a store of value amid speculation that China will buy gold and silver to diversify its foreign-exchange holdings.

As every speculation that mankind has experienced has come to an end, the gold bugs are concerned too. Tulip mania, Y2K reprogramming, Internet revolution, Housing boom from 2000-2006 (see graph below), FII moving billions to Emerging Markets (see graph below of crash in 2008), US being crushed under debt, US$ on a big decline etc. The concern of gold bugs is not just theoretical either. Many expect the dollar to stage a comeback after the U.S. Federal Reserve brings its monetary stimulus program — its second round of quantitative easing (QE2) — to an end this coming June 30 ’11. As interest rates are also supposed to bump up at some point in time to combat the inflation created by oil/depreciated-dollar, we will start seeing some strength in the US$. Indeed, some are anticipating that the rally could begin as soon as June-July, depending on the outcome of the Fed’s meeting. Will it last?

Technically, the meteoric rise of gold and silver is a concern, which foretells a correction of some magnitude. Volatility is growing and the exponential rise is happening now. Compounding it with the economic event of QE2 ending, might be simply a convergence of events that might create a buying opportunity for gold bugs or the people who feel left out…..This might look like a bearish view from me, but it really is a cautionary view. This means that buying more at these prices is not warranted unless you are a short term trader. What do you think?

Disclaimer: I am still holding gold/silver bullion, numismatic coins, Gold ETF and gold/silver/diamond jewellery as one of the asset classes in my portfolio.

-------------------------------------------------------------------------------------------------------------

KKP (Kiran Patel) is a long time investor in the US, investing in US, Indian and Chinese markets for the last 25 years. Investing is a passion, and most recently he has ventured into real estate in the US and also a bit in India. Running user groups, teaching kids at local high school, moderating a group in the US and running Investment Clubs are his current hobbies. He also works full time for a Fortune 100 corporation.

Planning for a hassle-free Retirement (a guest post)

Do you remember what you did with your first pay/payment cheque? (Haven’t received your first cheque yet? What are you doing on this page!) Did you blow it up having a good time with friends and family? Why not? You don’t remain young forever. There is a long and bright future ahead of you – and plenty of time to save and invest. Right?

Nishit doesn’t think so. He started planning for his retirement as soon as he received his first pay cheque. He wanted to use the leverage of compounding over his entire working life. In this month’s guest post, he explains why.

-------------------------------------------------------------------------------------------------------------

Everyone invests money with the aim of having a comfortable nest egg at retirement. Most of us have not worked out how much money we need at retirement, and at what rate of return we will be comfortable. Most of us chase multibagger returns in the equity markets, burning our fingers in the process.

The magic of compounding is such that 1 lakh invested in the markets today turns into 19 lakhs after 20 years at a rate of 16% return every year. To make 16% every year your asset portfolio need not take undue risks. A Government securities fund over the past 10 years has given a compounded return of 9% on an annualized basis, and a good mutual fund like the HDFC Top 200 has given annualized return of 34% over the past 10 years.

Inflation is a monster which is like a silent killer. Now assuming an inflation rate of 8%, after 20 years, expenses of 1 lakh become 4.66 lakhs. Your assets of 1 lakh have transformed into 19 lakhs whereas the expenses have just gone up to 4.66 lakhs. You have a nice cushion of 14 lakhs.

Gold as an asset class has also yielded an annualized compounded return of 17% over the past 10 years. The trio of equity, gilt funds and gold should form the cornerstone of any investment portfolio. What I am trying to point out here is that investments need not be complex; any common person can invest making use of investment vehicles like Mutual Funds.

The above returns are through investments using the SIP (Systematic Investment Plan) method. One can invest a fixed amount every month, say Rs 5000 each, in a gold ETF, equity fund and a Debt fund. The idea of doing this is that you do not try and catch the bottom or top of any market. One need not invest in too many funds at one go.

India’s economy is growing and will continue to do so for the next 10 years at least. Anyone who is planning to retire with a comfortable income must start doing a SIP at the earliest. By doing this, one can ensure that one is financially independent after retirement. Add to this a Medical Insurance policy that will cover major health care expenses post retirement. The earlier one buys a Medical Insurance policy the fewer are the tests one has to undergo and easier it is to get one. Everyone should have a personal medical health insurance policy, as company policies expire when one leaves the company.

-------------------------------------------------------------------------------------------------------------

(Nishit Vadhavkar is a Quality Manager working at an IT MNC. Deciphering economics, equity markets and piercing the jargon to make it understandable to all is his passion. "We work hard for our money, our money should work even harder for us" is his motto.

Nishit blogs at Money Manthan.)

About Asset Allocation – a guest post

Many small investors jump into the market – usually near bull market peaks – without doing any prior homework about how the stock market or mutual funds industry operates. They end up with a portfolio full of questionable investments that teaches them a very costly lesson – there are no short cuts in life, and definitely not in the field of investments.

Now that the stock market is hovering near its all-time peak, Nishit’s guest post addresses the important concept of asset allocation. Investing without an asset allocation plan is like going to a railway station and hopping on to the first train that is leaving a platform without knowing where it is headed. You may get somewhere, but it may not be a place you want to visit.

The thrill of adventure of not knowing where you are going – physically or financially – may be fun for a while, but expensive in the long run. Following an asset allocation plan takes away most of the uncertainty of your investment future, and ensures that you stay invested through the ups and downs of the market.

-------------------------------------------------------------------------------------------------------------

Today, we explore an important pillar of financial investing: asset allocation. Before we move further, let me ask you one of the most fundamental questions: Why do we work for a living? Why do we spend stressful hours commuting, tolerating unpleasant bosses, enduring long caffeine-fuelled meetings? Do we do it because we like doing it? Some of us may love our work greatly, but for most it is a way of earning money. The path to an early retirement is proper asset allocation.

Assets are of various types. They could be equity, debt, real estate, gold, and cash. The idea is to earn an optimum rate of return by taking the right amount of risk. The risk profile of every person is different. Riskier assets generally yield more returns, but not everyone can take the same amount of risk. A person aged 30, having a good job can withstand some capital erosion but a retiree at 65 with no avenues of earning money other than those generated from his assets can’t afford to lose money.

A thumb rule of asset allocation is that a person can invest upto (100 - age)% in equity. For example, a 30 year old can have 70% asset allocation to equity while a person who is 65 years old should avoid investing more than (100 - 65 =) 35% in equity. Now, thumb rules are meant to be only a guideline.

While making an asset allocation plan, one must also look at the ease of liquidation of the assets. How many days would it take to liquidate the assets and have hard cash in hand? Equities and gold ETFs normally take 3 days from the date of selling to get cash in hand. Debt can usually be redeemed in about a week’s time, be it mutual funds or fixed deposits – sometimes with a penalty of 1-2%.

The trickiest asset is real estate. It requires legal documentation, involves part transaction in ‘black’ money and has almost no transparency. Also, when the prices start falling you may find no buyers. I am a strong advocate of the policy of owning only the house you live in. Else, invest in REITs or stocks of real estate companies.

The trick is to treat all your assets as a fund and find out what the rate of return on the portfolio is. Any return above 16% (twice the 10 year government bond rate) is an excellent return on investment. The idea is to get rich slowly, step by step.

The cardinal rule to be followed is preservation of capital, followed by return on investment. For a 30 year old, the portfolio could be 20% gold, 40% equity and 40% fixed income. For a 60 year old the equity could be 20%, rest in gold and debt.

An example of retiring early and doing what one wants is Lakshmi Ramchandran, who blogs at http://vipreetinvestments.blogspot.com/. She took Voluntary Retirement from her bank in 2001 and is doing what she loves most. She does Technical Analysis, trades the market and enjoys life at her own pace.

Further insights on asset allocation can be found here: http://www.investopedia.com/articles/pf/05/061505.asp

-------------------------------------------------------------------------------------------------------------

(Nishit Vadhavkar is a Quality Manager working at an IT MNC. Deciphering economics, equity markets and piercing the jargon to make it understandable to all is his passion. "We work hard for our money, our money should work even harder for us" is his motto.

Nishit blogs at Money Manthan.)

Related Post

How to reallocate your assets

10 years Gold Chart Pattern: a parabolic rise

Two months back, the gold chart pattern indicated a slow down of upward momentum which led me to caution investors that a drop below the 14 day SMA may be the first warning of a possible change of trend.

I had also mentioned the possibility of a bearish double-top pattern forming on the gold chart, which could also lead to a change of trend. Neither of the bearish scenarios played out. All that happened was a brief dip to the 14 day SMA, followed by a $100 rise to a new high above the $1350 level.

A bout of profit booking took gold’s price below the 14 day SMA for a few days, but the $1300 level was not breached on the downside. The next up move took the price to another new high above the $1400 level, where some consolidation is taking place.

I have been looking at the 1 year chart of gold prices, and failed to observe the long-term bullish strength of the yellow metal. This time, let us look at the 10 years closing chart pattern of gold:

Gold prices have seen a parabolic rise during the strong bull market of the past 10 years. The bear phase during 2008 was the only occasion when gold prices dipped significantly below the 200 day SMA.

If this parabolic rise continues, gold prices could double or even triple from current levels within 18-24 months. The recent QE2 announcement by the Fed seems to have provided fuel to the bullish fire. Should investors enter at this late stage of the bull market?

That should depend on your experience, comfort and asset allocation plan. Remember that an investment in gold doesn’t provide any returns in terms of dividends, splits, rights issues or bonuses – like an IBM or TCS stock does. The entire play in gold is about safety and low-risk capital appreciation. A 100% gain in two years is no mean achievement.

To put things into perspective, the TCS stock has gained 300% in the past two years (adjusted for the 1:1 bonus issue last year) – and that doesn’t include all the annual and interim dividend payments. Even silver has outperformed gold by rising 200% in the past two years.

By all means, consider investing in gold even at current prices if you haven’t invested earlier. But keep the allocation to gold at 5-10% of your total portfolio value. Physical gold has associated safety and storage issues. Gold ETFs are readily bought and sold on the stock market like shares. 

Go for Gold – a guest post

Despite the title, this post has nothing to do with India’s splendid performance in the just-concluded Commonwealth Games at Delhi. I have been writing about gold’s chart pattern for the past few months, and have watched in amazement as gold’s price soared.

Those who have read those posts may be aware that I am not a great fan of investing in gold. Nishit’s views are the exact opposite of mine. In this month’s guest post, he provides logical arguments why investors should consider adding a fair chunk of gold – preferably gold ETFs – to their portfolios.

----------------------------------------------------------------------------------

The Gold rush has begun again. Gold has sharply increased from about $1250 per ounce to almost $1385 per ounce in a little more than a month. Why has gold’s price increased so dramatically and will the rise continue? Let us dig a bit deeper to come up with the answers.

But first, a bit of history. The California Gold Rush (1848–1855) began on January 24, 1848, when gold was discovered by James W. Marshall at Sutter's Mill, in Coloma, California. News of the discovery brought some 300,000 people to California from the rest of the United States and abroad. Of the 300,000, approximately half arrived by sea and half travelled overland. It sparked off a period of economic boom in America, and has been the subject of many movies.

http://en.wikipedia.org/wiki/California_Gold_Rush

Gold has always attracted mankind through the ages. Gold does not have many industrial uses; it is not edible; it does not give any returns on investment. Then why is it so attractive to man?

Since time immemorial, gold has been used as a currency. Till 1971, the US dollar was linked to the Gold Standard. The Gold Standard was a monetary system in which a region's common media of exchange were paper notes that were freely convertible into a pre-set, fixed quantity of gold. So, for every dollar the US government printed they needed to have an equivalent quantity of physical gold.

Once the Gold Standard was dropped, it lead to the debasement of the currency. The government could print as many dollars as they wanted, provided that there were takers for those dollars. Gold is primarily used as a hedge against inflation, something which can be used as protection in times of crisis, and has everlasting value.

There are several reasons why I am adding Gold to my portfolio:

1. Diversification

2. I have been noticing that Gold prices have kept going up in Rupee terms since childhood. As late as 2005, I had bought gold for Rs 6500 per 10 gms.

3. The debasement of the currencies by various governments. Some one has to pick up the tab for the profligacy of the Western economies. By printing more money, you simply are delaying the problem.

4. It is made in limited quantities and Gold is one metal which makes people go crazy. It’s not as if tomorrow you are going to find huge gold reserves.

5. Limited supply and the tendency of Indians to keep hoarding gold. I doubt if even 20% of the gold Indians buy every year comes back in the market.

In any investment, I also look at the downside. Gold is not going to be worth Zero Rupees. In the worst case it may fall by 20%. We have not yet entered the speculative blowout stage.

If we look at the gold chart from 1975, gold has gone up from US $150 per ounce to more than $1350 per ounce now. A gain of 800% (9 times). This factors in the booms of the economy and the recessionary trends as well.

With debt crises all over the world, it is not a bad idea to have some portion of one’s assets invested in gold. One can look at the Exchange Traded Funds (ETFs) listed on the NSE as a safe way of investing. This does away with the headache of storage and provides liquidity as one gets cash in 2 days by selling the ETF, like any stock.

Why did gold’s price spurt so dramatically in the last few weeks? It is clear that the massive ‘Quantitative Easing’ has not produced the desired results. The US Fed may pump in more money for ‘Quantitative Easing - Part 2’ and Gold will soar the moment the package is announced. I see price targets of US $1500 per ounce and even higher in the coming years. At least 20% of one’s portfolio should contain gold as a hedge against inflation and the madness of US government printing more dollars.

The upward-sloping channel in the Gold Price chart above has a price target of $6000 per ounce!

Tailpiece: The movie McKenna’s Gold, starring Gregory Peck, is a wonderful depiction of man’s lust for gold. It’s a classic western.

--------------------------------------------------------------------------------------

(Nishit Vadhavkar is a Quality Manager working at an IT MNC. Deciphering economics, equity markets and piercing the jargon to make it understandable to all is his passion. "We work hard for our money, our money should work even harder for us" is his motto.

Nishit blogs at Money Manthan.)

Gold Chart Pattern: more correction on the cards?

Last month, I had used the 'Bank Customer Services Representative's Behavioural Index' to surmise that the gold chart pattern was near a market top. Commodities and precious metals investors or traders need not be unduly concerned about this particular index, because it is a figment of my imagination.

The young lady at my bank branch - who usually tries to sell me the bank's Mutual Fund and insurance products - tried to sell me gold coins and even a gold 'biscuit' last month. Her unsuccessful sales pitch concluded with the plea: Every one is buying!

When every one is buying, I like to sell. But I don't have any investments in the yellow metal or in gold ETFs. So the next best thing was to caution investors from buying near what was obviously a market top.

In last month's analysis, I had observed a symmetrical triangle consolidation pattern in the gold chart, from which I expected an upward break out. A look at the 1 year gold chart pattern will show that the upward break out was followed by a new 52 week high:

Gold's price used the 14 day MA as a ramp as it rose to touch a high of 1261. The bears pounced almost immediately. The price dropped to the 14 day MA and after a brief bounce, fell sharply to the 1200 mark.

After another brief bounce up, gold's price has slipped below the 1200 level. At the time of writing this post, the price of the yellow metal is near the 1190 level. There is support at the 1160 level and then at the 200 day MA at 1120.

Note that the price has not dropped to the 200 day MA in more than a year. It is quite possible that the chart will bounce up towards the falling 14 day MA, as it doesn't appear to enjoy staying below the short-term moving average for any length of time.

There are still a lot of gold bulls out there - including well-known investors like Jim Rogers. There is no reason to doubt that the bull market in the gold chart pattern is robust and healthy, and will remain so as long as the 200 day MA is rising below the price chart.

The correction from the recent top is less than 6%, and a further drop to the 1160 mark may provide an opportunity to enter. I still have the feeling that much of the recent spurt in prices has been due to panic buying by investors who are worried about a further deterioration in the global economy.

The growth in the global economy has been tepid at best, but it is a growth and not a contraction. As production and consumption slowly limp back to normal in the European and US economies, much of the panic buying in gold may get unwound.

It may not happen tomorrow, or in the near future, but it may be a sharp unwinding when it does happen. As in any good investment strategy, stick to your asset allocation plan - where gold's percentage allocation should be in the 5-10% range.

Strategies for buying and selling stocks and mutual funds – analysis of last week’s exercise (Part I)

Last week’s reader exercise was a prelude to introducing certain strategies that can enhance the returns from stock market and mutual funds investment – particularly when the market is in a prolonged sideways consolidation.

Before I get into the analysis part, a big THANK YOU to all of you who participated. Except for questions 2 and 4, the answers to the other questions varied widely – as should be expected from investors with different experience and risk tolerances.

The Sensex has been trading in a broad band of about 2700 points – between 15300 and 18000 for almost 10 months. During this period, individual stocks have either hit the skids, or made new highs, or gone nowhere. Should you try to jump from stock to stock as one slides and another climbs? That would make the brokers rich.

At such times, stock picking skills come to the fore. Identify good funds or fundamentally strong stocks that still leave a ‘Margin of Safety’ and buy a small quantity. Where will the cash come from? If you had booked profits earlier and not redeployed the cash, then you have no problems. What if you are fully invested?

This is one reason why I recommend quarterly dividend option in bank fixed deposits (FD) and dividend options in mutual funds. That goes against the tenet of growth through compounding. But an investing strategy has to be flexible to factor in market vagaries.

The cash inflow through dividends and interests has several advantages. In funds, it works as automatic profit booking during bull phases. The dividend can either be reinvested in the same fund, or in a different fund, or to buy shares.

The interest from a fixed deposit can be invested in a recurring deposit, or for buying NSC certificates from the Post Office (which are not subject to the fluctuations of bank interest rates), or for buying funds through the SIP method. The principal should get reinvested in another FD – for a shorter period if rates are low. (An exception to this ‘rule’ will be covered in Part II next week.)

Question your own logic at all times, and try to avoid the ‘always growth option’ or ‘always through SIP’ strategies of investing. Suppose the market corrects viciously down to 12500 in the next 2 months. Unlikely, but possible. A year of gains will disappear from the growth option. SIP over 2 months of lower NAVs will not lower the holding cost of the previous 10 months by much.

Regarding gold, this what Warren Buffet has said: “Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.”

I haven’t felt the need to buy gold. But if I did, it would probably be a gold ETF or a gold fund. Much more convenient from storage and transaction points of view.

This post has already become too long, and I haven’t even covered questions 4, 5 and 6. Guess you will have to wait till next week for my analysis – because 4 and 5 are a little tricky, and will need some explaining.

In the meantime, nods (and applause) for Rsuvarna, Joe and Ganesh for logical answers. A hat tip to Eswar for his elaborate thought processes which helped in writing this post.

Those whose names didn’t get mentioned, please don’t feel disheartened or slighted. None of the answers were ‘right’ or ‘wrong’. I was looking for the logic behind the choices.

How to (or not to) take investment decisions - another reader exercise

Many small investors with limited resources at their disposal are often faced with investment decisions where they need to choose from several options. Some practical situations, described below, will be the basis of another reader exercise.

There are no 'right' or 'wrong' answers because investors have different priorities and risk tolerance. The objective of the exercise is to make you aware of your own decision making process and what type of an investor you are.

So have no fears about participating. A couple of lines explaining each choice will get additional 'brownie' points. I will post an analysis of the responses next week, and acknowledge the reader with the most logical answers.

Q1. Your fixed deposit of Rs 100,000 in a bank has just matured.  Will you:

(a) Renew the fixed deposit - even though the current rates are lower?

(b) Keep it in your savings account till the expected interest rate increase takes place, and then renew?

(c) Invest in the fixed deposit schemes at higher interest rates being offered by different companies?

(d) Invest it in mutual fund units?

(e) Invest it in shares?

Q2. You have decided to purchase mutual fund units in an equity fund. Will you:

(a) choose the growth option?

(b) the dividend re-investment option?

(c) the dividend payout option?

Q3. Every one seems to be buying gold and gold prices are at an all-time high. Will you:

(a) follow the crowd and buy a few gold coins/biscuits?

(b) buy units in a gold fund?

(c) buy gold ETF units?

(d) refrain from buying till prices drop?

Q4. You had bought 500 shares of a small cap company about 2 months back. After stagnating for a while, the price recently shot up by 25%. Will you:

(a) sell all 500 shares and book short-term profits?

(b) sell 250 shares and reduce your holding cost on the balance shares?

(c) hold on for higher prices?

(d) buy another 200 shares at the 25% higher price?

Q5. You had bought 1000 shares of another small cap company about 6 months ago. The stock has been stagnating since then. A recent announcement of 20% dividend and a stock-split perked up the price by 10%. Will you:

(a) use the up-tick in price to sell out?

(b) wait for the dividend and stock split and then decide?

(c) buy another 250 shares at the 10% higher price?

Q6. You have been holding a well-managed mid cap MNC company's stock for a couple of years. The company recently announced delisting of its shares from the stock exchanges at a buy-back price that was 15% higher than market. Subsequently the price has spurted by 30%. Will you:

(a) hold on with the hope that the company may increase the buy-back price?

(b) sell your entire holding at the current market price?

(c) sell 80% of your holding now, but keep 20% aside in case the company increases the buy-back price?

(d) sell to the company at the announced buy-back price?

Should you be buying gold at current prices?

When I mention 'buying gold' I mean buying gold ETFs or a gold fund and not physical gold. During my previous analysis of the 1 year gold chart, I had noticed a possible formation of a bullish inverse head and shoulders pattern.

I had also cautioned about the previous tops at 1150 and 1212 that needed to be cleared before the bulls could regain total control. Let us first take a look at the 1 year gold chart pattern:-

The inverse head and shoulders turned out to be a failure as the gold chart oscillated around the 14 day SMA in a sideways consolidation pattern. The 200 day SMA continues to move up, so the advantage remains with the bulls.

How long can this consolidation continue? On the previous occasion, after the gold chart pattern reached a high of 980, it consolidated sideways in a band between 910 and 960 for 3 months from end May '09 to end Aug '09. It then broke out sharply upwards to make the high of 1212 in end Nov '09.

This time around, the sideways consolidation in a band between 1050 and 1150 has continued for almost 4 months. It would seem we are overdue for an upward breakout soon.

A look at a longer term (5 years) gold chart throws up a wholly different possibility:-

Note the period from around May '06 to Sept '07, soon after a new high of 720 was made. The gold chart consolidated sideways for more than 16 months between a band of 550 and 700 (ignoring the sharp spike in Dec '06) before breaking out upwards to make a new high above the 1000 mark in Mar '08.

What followed was another long period of sideways consolidation in a wider band between 700 and 1000. This time the consolidation lasted nearly 18 months before a sharp upward break out saw the gold chart pattern reach the all-time high of 1212.

So, what looked like a 3 months sideways consolidation (from May to Aug '09) in the 1 year chart was actually the tail-end of the much longer 18 months consolidation! A good reason why investors in gold should take a real long term view.

Also worth noting is that on both previous consolidation periods, the gold chart moved below the 200 day SMA and took support at the previous tops before resuming the up trend. A similar possibility opens up if the current consolidation continues longer.

Going back to our original question - if you should be buying gold at current prices or not. The answer is a definite 'maybe'. A decent point of entry would be if and when the gold chart falls below the 200 day SMA. In which case, it may drop to 1000 (the previous top).

Even if the gold chart pattern dips to 1000 and you do get in, you may have to wait a year before getting any returns. That is how long the current sideways consolidation may continue.

Are you thinking of buying gold ETFs or a gold fund?

Four weeks back, I had raised the question: Is this a good time to buy gold? Guess I should have been a little more specific. I meant gold ETFs (or a gold fund) - not physical gold.

Buying physical gold has lots of associated hassles. How much should you buy? Coins, or biscuits, or bars? Where will you store them? Bank locker? Under the concrete floor of your basement?

Who will you buy it from? Your trusted jeweller? A Tanishq store? From a bank? How can you ensure purity? What if you want to resell some of it to raise liquidity? How will you go about it? How quickly can you complete the transaction?

Too many questions - which has prevented me from ever buying physical gold. But with the advent of gold ETFs and gold funds, almost all hurdles to 'buying gold' can be easily overcome.

Now comes another set of questions. Which gold ETF or gold fund to buy? How stable is the asset management company? What will be the returns like?

For the uninitiated, an ETF is like a mutual fund unit that can be traded in a stock exchange like an equity share. The NAV of each unit of a gold ETF approximately corresponds to the price of 1 gram of physical gold. So all gold ETFs give the same returns.

Now it is your choice whether you want to buy the ETFs from Benchmark (with the largest AUM) or SBI (the smallest) or from any one of the other handful of fund houses.

There are also gold funds that invest in gold mining companies and fund of funds (FoF) that invest in gold ETFs as well as in money market instruments, corporate debt and units of debt and liquid funds.

In the past one year, gold ETFs have returned about 5.5% - better than many debt funds, but a pale shadow when compared to more than 100% returns for the Sensex. The scene was different a year back, when gold ETFs were returning greater than 20% while the Sensex was in the red.

As I mentioned in my earlier post, allocate only a small portion of your portfolio to gold ETFs. Now a quick look at the 1 year gold chart pattern:-

After correcting from a high of USD 1212 in Nov '09 down to 1050 in Feb '10, gold prices started rising again and formed a bullish inverse head-and-shoulders pattern with the right shoulder getting support from the 14 day SMA.

The neckline at around 1140 was pierced from below, after which a pull back down to the neckline is in progress. The price chart pattern is likely to take support once again from the 14 day SMA which is almost at the same level as the neckline at 1140.

Till the previous peaks at 1150 and 1212 are not conquered, the bears will remain in the game, even though they seem to be losing ground rapidly. The 200 SMA continues its steady climb, so bulls have little to fear.

Is this a good time to buy gold?

To be absolutely honest, I haven't the foggiest idea. That is because of my aversion to buying any commodity, including gold. Why?

I remember the good old days of trading at the Calcutta Stock Exchange. During trading hours, the main floor inside the building used to be a scene of complete mayhem. A sea of people shoving and jostling each other while shouting at the top of their voices.

Frequent references and scribbles were made in small chits of paper or notebooks while one or more fingers were frantically waved in the air. How any one could understand what was going on was beyond me.

If that was scary, the scene outside the stock exchange building was almost out of a horror film! Small wooden cubbyholes stacked one on top of the other across the street. Each tiny cubicle inhabited by one human body in a contorted position.

All of them were shouting and gesticulating at a group of people who were assembled on the street. They were also shouting and gesticulating with frenzied abandon. That was the commodities exchange - trading in jute, steel, agri-products and who knows what else!

A couple of days exposure was enough to give any sane person nightmares. To cut a long story short, I have invested in commodity stocks but never directly in a commodity. (Buying jewellery for lady family members does not count!)

So why am I writing about gold? Because it seems to be the latest fad to talk about investing in gold as a hedge against (a) inflation or (b) the falling US Dollar or (c) being overweight in stocks. And when every one is unanimous about buying some thing, I become cautious.

Allocating a small portion of your assets in gold ETFs may not be a bad idea. But huge returns from buying gold at current prices is unlikely to happen. For an explanation, we will need to look at a 2 year gold chart pattern:-

From a low of USD 712.50 per ounce in Nov '08, gold price moved up a huge 70% to a high of USD 1212.50 per ounce a year later. The gold chart could not sustain at the high altitude and has subsequently made a bearish 'lower top lower bottom' pattern.

Recent upward movement has been resisted by the falling 30 day SMA. The 200 day SMA is still rising, giving the gold bulls some hope. But a drop to the USD 900-1000 per ounce zone seems likely. That may provide a better entry point.

Should you invest in lump sum or gradually?

Some frequent investor questions I face go like this:

'I have some spare cash. Should I invest it gradually in SIP (Systematic Investment Plan) or in a lump sum?'

'I have recently booked some profits from my portfolio. What should I do with the cash?'

'The market has moved up so much. Should I keep my savings in a fixed deposit or in a liquid fund?'

The answer will be different for different investors. Why? Because no two investors have the same financial situation. Some have aged parents to take care of. Some have EMIs on their residential accommodation. Some are planning to get married. Others have young school-going children.

But if I had to give a single answer, it would be: 'Follow your asset allocation plan.' (If you don't know how to go about making an asset allocation plan, read Chapter 12: How to Reallocate your Assets in my FREE eBook.)

Once you have an asset allocation plan in place, it will be a lot easier to decide what to do with your spare cash. If your equity allocation is too high already, don't buy any more shares. Invest in fixed income, or a gold ETF or in a liquid fund.

If the market is tanking and your equity allocation has dropped below your benchmark level, then only venture into equities. If you are unable to decide which stock to buy, then buy some Nifty BeES or an index fund.

The thumb rule about investing a lump sum amount - which you may have received as a gift, or as a bonus, or due to the maturity of a long-term investment - is to invest all of it, but without deviating from your asset allocation plan.

The best avenues to invest systematically and gradually are additional amounts in your company provident fund (or, Public Provident Fund for the self-employed), a bank recurring deposit, or a SIP in an index fund.

May be all three together. You may be surprised by the tidy sum that will accumulate after 5 years.

FTSE 100 Index Chart Pattern - Jul 3, 2009

It has been a month since I last looked at the FTSE 100 index chart pattern. The index was flirting around with its 200 day EMA while the 4500 level was playing the role of the stern aunt - trying to keep the index at arm's length.

The FTSE actually managed 6 consecutive closes above the 200 day EMA after my previous article, and that pulled the 20 day EMA marginally above the long-term moving average.

The 3 months bar chart pattern of the FTSE 100 index shows that all hopes of a new bull market were belied:-

 

The negative divergences in all the technical indicators - which made lower tops while the FTSE was consolidating sideways - finally broke the efforts by the index to keep its nose above the 200 day EMA.

The slow stochastic has slid into the oversold zone and is struggling to get out. The MACD has not only entered the negative zone but is also below its signal line. The ROC has been in the negative zone for a while, and a couple of efforts to get into the plus side has failed. The RSI is moving sideways, just above the oversold zone.

The volumes haven't gone down much. But all the three EMAs have started to move downwards. Once the 20 day EMA moves below the 50 day EMA, the index will be conclusively back in the bear market. Desperate efforts by the bulls to keep the index supported at the 4200 level seems doomed to failure.

Bottomline? The FTSE 100 index chart pattern doesn't hold out much hope for a recovery any time soon. Investors can start pulling out gradually and re-invest in fixed income and gold ETFs.

A Correction and some Observations about Mutual Funds and ETFs

About index funds and ETFs

This discussion is not about the correction that has been seen in global stock markets this week. In an article about two index funds, I had discussed about ICICI Pru Index Fund Retail and UTI Sunder. My broker pointed out that UTI Sunder is not an index fund but an index ETF. That means you require a demat account to purchase or sell units of the fund. The oversight is regretted.

Index ETFs are supposed to track the index closely. But due to the very low volume of transactions in the UTI Sunder ETF, unit prices move abnormally higher or lower even on small transactions. Investors may be better off with Nifty BeES, which tracks the Nifty more closely and has decent volume of transactions as well.

About SIPs

I often receive queries about SIP (Systematic Investment Plans) in mutual funds. My bias against SIP has been documented in this post. However, SIP works if used during sideways consolidation patterns - like the one we had in the Sensex for the past 6 months.

If you have the self-discipline, then keep the investment date flexible. Signing up for a SIP plan with a mutual fund every month or every quarter locks you into specific dates. You won't be able to take advantage if there are sharp market turns in between.

About Debt MFs

Some times investors ask me if they should put money into a debt mutual fund instead of a fixed deposit. I am old fashioned and have never invested in debt MFs. I like the assured return in a FD, even though the return is taxable. A quarterly interest payout from FDs provide a regular cash inflow - which a debt MF may not be able to match.

About Sector Funds

These are more risky and volatile than diversified equity funds. Unless you have a very good reason, avoid sector funds. There were a plethora of infrastructure fund offerings during the bull market. Many performed spectacularly. But their fall has been equally dramatic.

The only exception would be if you really know every thing about a sector, let's say the banking sector, that needs to be known but do not have sufficient cash to deploy in more than one stock. In that case, an investment in a banking sector fund may work for you.

About Gold ETFs

Buying and storing of gold - whether bars or coins or jewellery - has been a tradition with many Indian families. With the advent of gold ETFs, the hassle and risks in storing physical gold can be avoided.

According to some gold analysts, the bull period in gold has not ended. It is about to get even bigger and stronger. I've never bought gold or gold ETFs. But with the current uncertainty in the global economy, a small investment - not more than 5% of total investment portfolio - may not be such a bad idea. I'm looking at UTI's gold ETF for possible purchase.

If any reader has a better idea, I'd be more than happy to hear from you.

How to reallocate your assets

An investor friend asked me a million dollar question last week: The stock market has collapsed and blue chips are available at attractive valuations, but where is the cash to buy them?

Many investors - yours truly included - have been taken by surprise by the severity of the market decline. Let alone think about buying, many are scrambling to save whatever little is left of their portfolio. The currently attractive fixed deposit (FD) rates have prompted some to sell even at a loss and move to fixed income.

This is as great a time as any to give some thought to asset reallocation. But to do that we have to start with asset allocation.

Let us say that you are 35 years old and an investor in the stock market. The thumb rule for percentage allocation to equity suggested by market experts is (100 - your age). In this case, it will be (100 - 35 =) 65%.

Now you may not feel comfortable with the associated risk of such an allocation to equity. No one is pointing a gun at your head. Choose whatever percentage makes sense to you. 40-50% if you are a conservative investor. 75% if you are aggressive about making high returns with high risk.

The younger you are the more should be your equity allocation. Why? Because equities tend to earn the best returns over the long term, and when you start young you have less responsibilities and hence can afford to take more risk.

The older and closer to retirement you are, the more should be your allocation to fixed income. Why? Because the stock market can be in doldrums just when you are about to retire - when your regular income source will dry up. The (100 - age) formula comes in handy after all.

For argument's sake, if you agree with the 65% equity allocation (this could mean shares or equity MFs or a combination), the balance 35% should be in fixed income, gold ETF and cash. A rough breakup can be 25% in bank FD or Post Office MIS or PPF, 5% in gold ETF and 5% in cash.

The gold ETF is a hedge against inflation, but low returns may not permit a higher allocation. The cash is necessary for unforeseen opportunities - like a rights issue, or additional purchase due to a bonus issue or divestment.

If you have Rs 20 lakhs as an investible surplus, this asset allocation formula means Rs 13 lakhs in equity/MF, Rs 5 lakhs in fixed income, and Rs 1 lakh each in gold ETF and cash.

Investment guru Benjamin Graham had advocated that on no account should you let your equity allocation go beyond 75% or go below 25%. If you follow this advice to the letter and spirit, it will enable you to reallocate almost without thinking.

How? Say the stock market moves up (not likely in the near future!), and the value of your equity portfolio becomes Rs 18 lakhs. Your total investment value now becomes Rs 25 lakhs (=18+5+1+1), and your equity percentage becomes 72% (=18/25).

This is still below Graham's limit of 75% but is 7% above your original plan of 65%. Prudence requires that you start booking profits partially. If you are aggressive, you can ride the bull market till your equity value goes up to Rs 21 lakhs. Now you've hit the 75% level (=21/28). No further waiting - start selling and invest the proceeds into fixed income and cash, to return to your original percentage allocation plan.

What happens in the process is you increase your wealth in real terms - not only on paper, because now your fixed income/cash amounts have increased. The actual figures are about Rs18 lakhs in equity, Rs 7 lakhs in fixed income and Rs 1.5 lakhs each in gold ETF and cash.

Thanks to the bear market, let us assume your equity value drops to Rs 10 lakhs. Your total investment value is now back to Rs 20 lakhs (=10+7+1.5+1.5) but your equity allocation is down to 50%.

Guess what? You now have some extra cash to deploy back into the market. And if you opt for Post Office MIS and/or monthly/quarterly interest from your FD in your fixed income allocation - then you will have even more cash without touching your FDs or gold ETFs.

No wonder Warren Buffett has said that knowledge of simple arithmetic is enough to be a smart investor! (In real life, the arithmetic may become a little more complicated - but an Excel spreadsheet should take care of that.)