May 2013 : Gold and Equities at inflection point

Equity markets continued on the strength seen over the past couple of months and the Nifty is currently trading about 4% below its all-time high. We are seeing an increased positive sentiment returning to equity markets, but led primarily by only a handful of large companies. The Midcap indices are trailing the Nifty to a reasonable extent this year. Part of the strenght in the Indian markets is led by global events.
Certain interesting events globally seem to point to a renewed interest in capital markets. The S&P 500, which reflects the US equity markets, reached new highs during the month. The S&P 500 reached a prior peak of 1527 in Mar 2000. Since then, the index has been trading below these levels. Despite attempting to scale this peak in Oct 2007, it is only in Apr 2013 are we seeing the S&P 500 trade at above the 1527 levels on a consistent basis. The last time a similar period occurred was between 1968 till 1980 (coincidentally, again a 13 year stretch). In Dec 1968, the S&P 500 was trading at about 108. The Index traded at below these levels, apart from an attempt to reclaim the peak in 1973, till Jun 1980. From the levels of 110 in Jun 1980, the S&P 500 was on a nearly one-way street all the way to the high of 1527 in 2000.
The interesting corollary has been the price of gold. In 1968, around the time the S&P 500 peaked, gold was about $ 40 per ounce. Over the next 13 years, gold prices went up sharply nearing a peak of over $ 700 per ounce in Sept 1980. In the subsequent 20 year, gold prices fell all the way down to $ 265 per ounce around Oct 2000 – during the same period the S&P 500 went through a structural bull market. Since Oct 2000, gold prices climbed from $ 265 per ounce reaching a price over of over $ 1850 in Aug 2011. As you can see, gold prices and S&P 500 have had a reasonably consistent inverse correlation for well over 40 years.
Gold is viewed as a safe haven, when faith in financial markets is low. The performance of S&P 500 is a reasonable indicator of faith in financial markets. In April 2013, the S&P 500 scaled a 13 year bear market. The sharp fall in the prices of gold during the last few weeks indicates a return in positive sentiment towards capital markets globally.
A revival in interest in the global markets is likely to have a positive effect in Indian markets over time. Indian equity markets have been weak for nearly 5 1/2 years. Given the protracted period of weakness, reasonably good corporate performance during this period and valuations that are not expensive, we believe a revival in positive sentiment, though gradual, should return soon. More importantly, equities as an asset class, compared with most alternatives, looks attractive in the coming years.