Why and how much to invest in gold

Every investor and even a layman knows that it's extremely safe and stable to invest in gold. However, why is there a sense of stability and security when it comes to investing in gold. Apart from that investors are generally confused when it comes to composition of gold in their portfolios. Whatever the case it is a must to have gold in your portfolio. Today I will try to answer some of these generally asked queries.

Why Invest in Gold?

Since time immemorial gold is seen as a commodity of immense value and is attached with social status. It is used in making jewellery, dentures, electronic circuits & equipments, industrial catalysts and what not. This has driven it's market price through the roof. Barring few lows gold has always performed well. During economic downturn or recession gold is the best hedge against eroding financial & notional investments. The reason is gold is something physical and real which has real value. This is the very reason various central banks are hoarding gold for last 3-4 years or since 2008 U.S. recession. When economy is not performing well investors look out for stable and secure investments, it is the time when they lap up gold at any price.  This is precisely the reason why gold prices shoot up like anything during recession. Another reason worth looking up is that gold reserves are dwindling down with each passing day. With demand increasingly going up and supply going down, gold prices are nowhere going to stay where they are. You can invest in gold either by purchasing physical gold bars from financial institutions or by purchasing it indirectly through Gold ETF or GETF.

Why and how much to invest in gold

How much to invest in Gold?

Having gold in your portfolio is good but don't overdo it as you need to diversify across asset classes in order to generate a consistent and fair amount of return. Gold is basically included to give your portfolio a safety net just in case it is not performing well. Ideally an allocation of 10-20% is more than enough to save you of any considerable fall in your notional investments. If you are thinking to buy physical gold then prefer gold bars rather than jewellery as gold jewellery looses it value over a period of time due to adulteration & wear & tear. But physical gold beyond a level attracts Wealth Tax in some countries like India. Apart from that gold needs to be stored and taken care of. So considering these factors I would advise you guys to invest in Gold mutual funds and ETF's. They are safer and does not attract any wealth tax. 

Whatever the decision you take don't just blindly jump into gold bandwagon as different assets perform well in different times. Last 4-5 years belong to Gold. So stay focused keeping in mind your ultimate investment objective and invest accordingly. 

What are "Direct Mutual fund" plans?

Recently the Indian capital market regulator SEBI or Securities & Exchange Board of India announced plan to introduce Direct Mutual fund plans  from 1st January 2013. Reacting to this announcements some of the fund houses have either increased or tweaked the exit loads for some of the mutual fund schemes. On top of that some of the investor who wish to invest in direct plan (through transfer) are made to pay the exit loads, whereas others are simply allowed without paying a dime.  The simple logic behind this is the time duration for which investor  remained invested in the fund and the mode of application. If you applied with the AMC directly prior to Jan 1 then you need not pay any exit load to transfer to Direct plan. On the other hand if you invested through an agent then you need to pay the exit loads prevalent at that time.

Must Read: How much to invest in mutual funds?

What is a Direct mutual fund plan?

A direct mutual fund plan is one in which you directly approached the asset management company (AMC) or mutual fund house and invested with them without the help of any agent or broker. This non-intervention of intermediary leads to lesser expense ratio for the fund hence a slightly higher NAV or net asset value.  However the normal plans will continue to be distributed through brokers & distributors.

So from this article it's pretty clear that not all investors end up paying the same exit loads. This depends on the date on which we invested and entered in the contract with the AMC. Even if the AMC changes the exit loads during the course of time, you are only bound by the exit loads mentioned in the schemes offer document. So the next time you plan to invest in a new mutual fund don't forget to invest some time reading the offer document and acquaint yourself with the various charges associated with the scheme. SEBI has always protected the investor rights and direct plans are another step in the right direction. 

How much to invest in mutual funds?

The old adage "don't put all your eggs in one basket" holds true even today but putting every single egg in different basket also increases your risk. Filling your portfolio with loads of mutual funds actually leads to over diversification which also eats away your return. Investing in mutual funds is a part of financial planning process. Prof. John L. Evans and Prof. Stephen H. Archer of University of Washington published a study in 1968 that said that risk does not go down if you diversify beyond 8-10 securities.If we leave diversification aside investors particularly the younger lot worry about how much to invest and in which mutual funds schemes. Below are the various factors you must keep in mind before investing in MF's:

Set your priorities

 You must know your priorities clearly to start investing and most of the financial planners advise to start investing as soon as you get your first paycheck. Early start gives your portfolio more time to grow, hence more corpus at the time of retirement. Apart from mutual fund investments you need cash for your day to day expenses. A thumb of rule says you must keep about three months of your expenses as cash in your bank account.

Of the money left try to pay off your loans via EMI route. A medical emergency can seriously dent your finances so it's better to take a health insurance as well as a life insurance to cover your loved ones in case of any adversity. Now whatever is left is your surplus or disposable income. This amount can be used to invest in mutual funds.

Invest systematically & patiently 

Most of the young investors go overboard and start investing huge lump sum amounts in MF's. As you are in your early stage of growth your salary is still rising and disposable income is not that much, so it's better to limit your MF exposure to 2-3 funds. As and when your income grows take up the number of schemes in your portfolio. 

The smart way to invest in mutual funds or ETF's is through SIP or systematic investment plan. SIP basically spreads your investment risk to a larger time horizon by buying units each month for a fixed monthly amount.  This brings down your average cost of investment or the cost averaging comes into play here. When MF's units cost more you buy less and when it goes down you manage to buy more of it. So it's a win win situation for investors.

Set your Time Horizon 

This is most important part because to technically qualify as an investor you need to be invested for at least a year. Other wise you are like a speculator. Your investment needs time to grow substantially.  This is why you need to set your spending goals which leaves you with desired level of disposable income to invest in MF's or ETF's.