(MENAFN - Khaleej Times) Fear and gold prices are interlinked as the bullion is perceived as a safe haven, an asset that loses none of its value in case of a market crash and/or as a hedge against stocks, inflation, deflation and the US dollar.
The recent rally in gold is intrinsically linked to current global economic turmoil. The equity markets are in a tailspin, the governments are busy printing money and mounting job losses have sent investors to seek refuge in the yellow metal for its rarity. All efforts by alchemists to create gold in laboratory have not succeeded. Though its scarcity, malleability and non-corrosive quality deserves a place in an individual investment portfolio, it is not risk free.
Gold prices are very volatile. On February 20, the bullion briefly touched 1,000 per ounce and then fell for eight consecutive days to touch 900 before bouncing back to 940 after record US unemployment data and continued uncertainty in the global financial sector. The price volatility questions the gold's safe haven status.
Moreover, there is no method or model to value gold. An equally compelling argument can be made on why gold should be priced at 600 instead of 1,000.
Owning gold per se does not generate cash flows, there is no method or model to value gold except for some guesswork based on demand and supply.
The high gold prices coupled with a weak local currency have sent the Indian jewellery industry into deep recession. About 60 per cent of gold mined is consumed by the jewellery industry and India is the largest consumer. Global electronics industry, another large consumer of the yellow metal, is severely hit by the global slump. The demand outlook for gold at these prices is very weak and on the supply side, the high prices have turned buyers into sellers. Every spike in price is spurring the Indians and the Indonesians to encash their old jewelleries. Dubai has been experiencing a significant inflow of gold scrap for refining in recent years and it is set to continue as India is one of the top trading partners of the Dubai Multi Commodities Centre.
The fundamental relationship of price being the function of demand and supply has broken down. The price of gold is driven by pure speculative buying to ride on the gold's ability to attract investments in times of uncertainty. Gold is now a pure commodity play disguised by its safe haven allure. The hordes of funds that still have some money left are parking their cash in the bullion hoping for better times.
In a recent report, Friedrik Nerband, head of global strategy at HSBC Private Bank, notes that gold is not a long-term safe investment as recent high prices are more based on trends rather than fundamentals and is unlikely to sustain such high levels. He adds that the high price of gold is being sustained amid the current market uncertainty as nervous investors turn away from declining equities.
Despite all these drawbacks, a position in gold is worth all its glitter. Buying gold should be treated as an insurance against the debasement of paper-based currencies. Gold has always been a bad investment but a good hedge. In case of a catastrophic financial disaster, when paper is worthless, gold will still be worth something. But is it worth paying 1,000 now? That's a million dollar question.