Gold

Introduction

Gold is the most highly sought precious metal, since pre-historic times, for coinage, jewellery, and other arts. A total of 161,000 tonnes of gold have been mined in human history, as of 2009. Although primarily used as a store of value, gold has many modern industrial uses including dentistry and electronics. Gold has been widely used throughout the world as a vehicle for monetary exchange, either by issuance and recognition of gold coins or other bare metal quantities, or through gold-convertible paper instruments by establishing gold standards in which the total value of issued money is represented in a store of gold reserves. However, the amount of gold in the world is finite and production has not grown in relation to the world's economies.

Indian Scenario

India is the world’s largest consumer of gold with more than a quarter of the total global consumption used primarily in jewellery. It is also the world largest importer of gold. Consumption decreased in 2008-09 period owing to prohibitive prices. Indian culture values gold as a safe investment avenue and is deeply rooted in their traditional value system. Most of the consumption tends to concentrate on festive months like Diwali, Akshay Tritiya, harvesting season, marriages, etc. when people buy/present gold ornaments and coins as gifts.

India, being a major consumer, needs to be integrated with international markets. Developed economies provide avenues for efficient price discovery and risk management. Having a futures platform in India will allow Indian value chain members to participate in the above process, and also offset their price risk. India already has a huge spot market in gold. A futures exchange will only complement the existing system by providing a forward curve for prices. Going forward, the futures platform will integrate fully with the spot market creating a symbiotic relationship wherein mutual benefits will flow seamlessly. The futures market will allow investment gold to freely flow into the market, which will further strengthen the price discovery process.

Like other precious metals, gold is measured by troy weight and by grams. The price of gold is determined through trading in the gold and its derivatives. A procedure known as the Gold Fixing in London, originating in September 1919, provides a daily benchmark price to the industry. The afternoon fixing was introduced in 1968 to provide a price when US markets are open.

Gold is the most liquid asset in the world. The standard gold bar of 995 or 999 purity is accepted across the world and returns its full asset value which makes it the least risky. More importantly, India being the largest consumer, it has always been linked to the international bullion market. All developed economies allow for “derivatives” trading in gold comprising of futures, options, swaps, etc. These derivative instruments have immense benefits to different strata of the market. Some are listed below:

Producers of gold are always exposed to downside risk of their gold decreasing in value by the time it is mined, refined and taken to market. For them, futures trading allows for advance sale of their gold at prices suitable to them, so that their margins are secured.
Jewellery makers buy gold to be designed as per their customers’ specifications. For them a lag in procurement of gold as raw material and sale of finished jewellery would expose them to price risk, thus, affecting their profit margins. Futures trading will allow them to book gold as per their design schedule. Moreover, in case of uncertainties, they can always hedge their risk on futures so that the loss arising in their business is offset by equivalent profits on gold futures.
Supply concerns are one of the most important reasons for futures trading to exist. In the last few years, supply increase has been from scrap recovery, sales from central banks and loans from official gold reserves. Owing to these supply pushes, price of gold fluctuates causing volatility.
Since gold is priced in US Dollars, any economic activity that affects this currency, indirectly affects the gold price. Additionally, conditions like inflation, deflation, bankruptcies, etc. affect the economy at a larger level. Gold, being an inflationary hedge, automatically attracts investors’ attention for diversifying their risk and neutralizing their portfolio.

Factors influencing Gold prices

From time immemorial, gold prices have been affected by political and economic factors. This was continued till the official London and American gold price discovery started. Another significant move towards this was the Washington Agreement. Though there are several factors influencing the price, the three main reasons for price movement include:

Jewellery demand
Demand for paper-backed products traded on exchanges
The US Dollar

In addition to the above, the following factors affect the price of gold:

Demand-Supply fluctuations
Currency fluctuations
Interest rates by Central Banks of countries like US, England, Japan, etc.
Crisis situations like war, invasions, political unrest, etc.
Gold reserves fluctuations – transfer of reserves, sale and purchase by central banks
Returns on investment compared to other avenues like stocks, currencies, real-estate, bonds, etc.

Customer HelpDesk

Gold