There is a lot that needs to be done in financial education and financial planning. Volatility and undesirable speculation in the equity market needs to be reined in so that investors could have more faith in equity market. Also, investors need to be moved to investments like Gold ETFs in order to reduce the import bill of gold
The Reserve Bank of India ( RBI) has come out with its Financial Stability report. The report talks in details about the risks which the financial system in India and also gives an overview of the way things have been shaping up in the Indian economy in general. However, the most interesting aspect of the report is that it provides a good insight into Indian household’s saving and investment behavior which can be used as a tool by financial planners. Let us look at some such interesting aspects:
Gold has been the most reliable asset for Indian household: This may be disappointing news for those who suggest equity as an investment option for long-term wealth creation (including me). However, the reality is that gold has become the most preferred investment option in the post crisis period for investors. The RBI report says that post 2008 crisis, gold has been one asset which has consistently giving returns that has beaten inflation comprehensively.
The RBI report says, “Gold prices have increased the most in comparison with other assets and are significantly above the movement in the WPI (wholesale price index) as at end September 2012. Residential house prices have also beaten the upward movement in the WPI. The movement in the BSE Sensex was only slightly higher than the WPI during June 2008 and September 2012. On a year-on-year basis, gold offered the highest returns among asset classes for majority of the years after the global financial crisis”.
The chart below shows that gold return has been the best among asset classes which are real estate, Sensex, gold and bank deposits.
The RBI report also shows that the attempt to rein gold import has failed in spite of the increase in the government duty. The report says, “Earlier this year, the government duties on the import of gold were hiked. This measure, inter alia, appears to have significantly dampened demand for gold in the June 2012 quarter. However, demand in the September 2012 quarter picked up significantly and was higher than the average of the last five years (September 2007 to June 2012)’.
Indian household preference for physical savings increasing over financial savings: Post 2008, there has been a general shift from financial savings to physical savings. The RBI report says, “Financial savings of the household sector declined to a two decade low of 7.8% of the GDP (gross domestic product) in 2011-12 from 9.3% in 2010-11 and 12.2% in 2009-10.Even in absolute terms, financial savings fell from Rs7.9 trillion in 2009-10 to RS6.9 trillion in 2011- 12”. This is reflected in the chart below, as well.
The RBI report also provides an explanation for this shift in the saving behavior when it says, “A number of possibilities could explain the fall in financial savings. Inflation has been high during the past few years. Consequently, real return on financial assets has been very low. Households seem to have shifted their savings from assets earning low real rates to assets perceived as inflation-proof.”
Lessons Learnt: There is a lot that needs to be done in the financial education and financial planning space. In place of physical gold, investors need to move to investments like Gold ETFs (exchange traded funds). This will reduce burden on the import bill of gold. Additionally, volatility and undesirable speculation in the equity market needs to be reined in so that investors could have more faith in equity market. The Securities and Exchange Board of India needs to put stricter control for companies in equity market and need to have a re-look at pricing of equity shares during an IPO (initial public offer).
(Vivek Sharma has worked for 17 years in the stock market, debt market and banking. He is a post graduate in Economics and MBA in Finance. He writes on personal finance and economics and is invited as an expert on personal finance shows.)
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There is no methodology to determine whether gold is undervalued or overvalued at current prices as an asset; it gets included purely because of the fallacy to extrapolate past returns into the future. When the advice to invest in gold is expressed as asset allocation it gives it a guise of scientific approach towards financial planning. – But it still remains a speculation on gold prices.
Similarly, if prices of sand, stone and pebbles keep on rising for the next 10 years at a faster pace, then rest assured, financial planners would recommend some allocation to sand, stone and pebbles too.
For an average investor, cash, debt and equity would suffice for asset allocation and would work well from financial planning standpoint. But, it is the craving of individuals to try and benefit from current fads which sets them up for disappointing results. The financial planner’s / advisor’s role must be limited to discouraging clients from allocating money to gold rather than conveniently adding fuel to fire.