Though they’ve come down now, gold prices had moved to astronomical levels. Where was the demand coming from?
Two factors were at play here. The first, demand-supply fundamentals like the disruption in South Africa impacted global supply. But, it hasn’t disturbed the balance significantly.

The second is the behaviour of financial markets. Gold prices have an inverse relation with the value of the dollar the coefficient of correlation is over 0.98. When the dollar weakens against the euro, the price of gold tends to move up, as funds move away from the dollar and towards gold.

So how do you explain the reversal? The stock market correction seems to have impacted gold prices too.
The strength of the dollar vis-à-vis the euro has driven gold prices downwards of late. This relationship between the two should continue. The acceptance of Bernanke’s conservative monetary policy stance will strengthen this feeling. In any case, a continuous decline in the dollar could impact European exports, and the Euro zone would try and arrest a freefall in that currency. This would result in phases of weaker gold prices.
That said, while the supply of gold is limited, demand is ever increasing. So the price can only move up in the long run.

So where do you see gold prices a year from now?
It is hard to say. While the basic relationship depends on the euro-dollar strength, we have seen deviations. In the first half of 2005, everything was moving up gold, dollar, crude oil, metals, stocks and interest rates. But the strength of the euro would depend on the current account deficit of the US, which is around 6 per cent of GDP today. This can’t come down in the near future and as long as it remains high, the dollar is bound to come under pressure, which in turn, would push gold prices up.

So you’re saying this is a good time to invest in gold.
I’m saying investment decisions should be based on fundamentals, for which ideally one should look at a longer time horizon. Given that the US deficit wouldn’t stabilise in a hurry, there would be a proclivity towards a weaker dollar. However, short-term disturbances would always be there driven by other economic and socio-political factors.

Even at Rs 8,700-plus gold does seem expensive. Will this impact the traditional market in India?
The domestic price of gold is fully correlated with the international price. Although India is the largest consumer of gold, it is just a price taker. Therefore, the price would tend to mimic the global trends. Further, we import all the gold that we use, so there is no real supply issue as far as India is concerned.

Retail buying is unlikely to come down with higher prices, as gold is treated as a sign of wealth. So when prices rise, one would be tempted to buy more gold to maintain one’s status, and also because one knows that the price will not come down in future. That makes the precious metal a safe investment harbour.

How will the demand of gold move when gold ETF is launched in India?
The demand for gold would be on the rise with the launch of gold ETFs. But since we are price takers and gold is freely importable, the supply constraint may not be there. We need to wait and watch on the response of these funds.

What factors would affect the price of gold in the near future. Would rising interest rates impact its demand?
The gold price in India is driven by the international price of gold and the exchange rate. If the international price rises and the rupee weakens, we will see higher prices and vice versa. Interest rates may not impact the demand for gold. This is because the investor in gold is different from the one who deals with fixed income instruments. To the extent he does borrow money to invest in gold, there would be some caution. However, given that the gains from gold are much higher than the incremental interest cost of borrowing, it may not be limiting factor.

How does one hold gold in demat form. What are the advantages of doing so?
In a simplistic manner, you can take your gold to an authorised warehouse of NCDEX and get it certified by an authorised assayer. Your commodity balance account with the DP (depository participant) is then credited with, say, 1 kg of gold. You can then hold it or sell it by simply transferring it to the depository balance of the buyer. This way, there is no physical movement and the transfer of monetary balances is instantaneous. The advantage of dealing on NCDEX is that as a buyer you are sure of the quality and as a seller your demat account is adjusted according to your need.

How can one check the quality and standard of gold?
There are assaying agencies that check the purity of the gold based on the contract specifications of NCDEX. When gold is brought to the warehouse, it has to meet these specifications and any tolerable deviation goes at a discount. As a buyer of this gold on the exchange, you are guaranteed for this level of purity.