Gold vs equities: 'Gold and equity have negative correlation', financial advisor illustrates on having multiple assets

Gold prices reached a record high on Thursday, outperforming other assets in the current market. Ventura Securities reports an 11% increase in gold prices this year, projecting an increase to over $3,080 per ounce by the first quarter of 2025. Investors turned to gold for safety on February 20, pushing spot gold prices up 0.5% to $2,945.83 per ounce by 0621 GMT. With a 12% increase so far this year, gold continues to break records amidst growing geopolitical and economic uncertainties.

In light of declining equity prices, many investors are turning to gold as a safe haven against inflation and rupee depreciation. In January, domestic mutual funds poured a record Rs 3,751.42 crore into gold exchange-traded funds (ETFs), marking a fourfold increase compared to the previous year's average inflow.

However, experts feel investors should maintain a multiple asset portfolio to ward off the fluctuations of the market. 

B Padmanaban, a Certified Financial Planner, noted Gold and equity demonstrate a negative correlation, which results in reduced volatility when both are held in a portfolio. After analyzing the returns of gold and small-cap investments over the past two years, unexpected findings emerged. 

He added while negative correlations do exist, there have been periods of co-movement between the two asset classes. This trend has not been limited to the recent market peak, but has also been observed from 2003 to 2008.

"...on a serious note, this means you should have multiple assets in your portfolio - equity, debt and commodities. Gold and equity have negative correlation - having both reduces volatility. I analysed the recent peak of the equity market on September 26, 2024. Looking back two years, I compared the returns of both gold and small-cap investments, yielding surprising results. Contrary to expectations, there is no inverse relationship between the two (Gold & Equity). While negative correlations are evident at times, there have also been instances of simultaneous growth. This pattern is not unique to the recent market peak but has occurred between 2003 and 2008 as well. The purpose of this message is to illustrate the absence of a negative correlation between gold and small-cap investments," Padmanaban said in a post on social media platform X.

The concept of gold serving as a natural hedge against equities has been widely acknowledged for some time. However, market behavior often deviates from traditional theories. The inconsistent negative correlation between gold and small-cap equities demonstrates how market cycles can be unpredictable. This serves as a reminder that diversification involves more than just combining different asset classes; it also requires an understanding of how these assets perform in various market conditions. 

Small-cap equities may be influenced by domestic growth narratives, whereas gold may react to global risk factors, leading to instances of alignment or divergence. Consequently, relying on static allocation strategies may prove inadequate in dynamic markets.

Growing popularity of Gold ETFs

Gold ETFs experienced a significant increase in monthly inflow in January, receiving Rs 3,751 crore, marking a monthly growth of approximately 486% from December's inflow of Rs 640 crore. Yearly comparisons also show a substantial growth of 471% compared to January 2024's inflow of Rs 657 crore.

The number of gold ETF folios surged by 30% to reach 6.5 million, while assets under management (AUM) increased by 87% to Rs 51,839 crore over the past year. This growth in AUM can be attributed to the significant rise in the value of underlying assets, with the net asset values of gold schemes seeing an average increase of 40% in the past year.

Gold ETFs can be traded on the stock exchange just like equities. Additionally, there are no making charges for investors to pay when buying or selling these ETFs. The full amount of the investment will be deployed without any deductions.