Case 031Macro and multi-asset scenariosWarm up
A family trust holds 10% of Rs 50 crore in gold. If real yields rise 1 point and gold falls an assumed 12% per point, what does the trust lose, and what role should gold play?
1The situation
Swarnarekha Family Trust manages Rs 50 crore for three generations of a family. It holds 10% in gold, Rs 5 crore, because the elder trustee sees gold as the family's protection against inflation. It also holds Rs 20 crore of government bonds with a duration of 5 years, and the rest in equities.
The investment adviser's house view is that ten-year real yields, today about 1.5%, could rise by 1 point. For the case, treat gold as falling 12% for every point that real yields rise. That sensitivity is an illustration, not a measured fact; the real relationship is loose and shifts over time.
2Your task
What does the trust lose on gold if real yields rise 1 point, what happens to the rest of the portfolio in the same move, and what role should gold play?
Quick check
Real yields rise 1 point. Roughly what does the trust lose on its gold?
Worked solution
Try it on paper, then open one step at a time.
30-second answerThe answer to give first
About Rs 60 lakh, 1.2% of the trust, on the assumed 12% sensitivity. Gold pays no income, so when the real return on safe bonds rises, the cost of holding gold rises and its price tends to fall. The bonds lose about Rs 1 crore in the same move, so gold does not cushion it. Gold earns its place as a small hedge against crises and a weaker rupee, not as a hedge against rising real rates.
Step 1Why would gold fall when real yields rise?
Think of a painting on your wall against a flat you rent out. The painting pays you nothing; the flat pays rent. If rents rise sharply, owning the painting costs you more, because the rent you give up is larger, and fewer people want to hold paintings. Gold is the painting: its opportunity cost is the real yieldThe yield on a government bond after subtracting expected inflation, or the yield on an inflation-indexed bond directly. you could earn on a safe bond, so a higher real yield makes gold less attractive to hold. Inflation on its own is not the driver; what matters is the return left over after inflation.
Step 2What does the whole trust lose in the same move?
Gold loses 12% of Rs 5 crore, Rs 60 lakh. But ask what else a 1-point rise in real yields does. If inflation expectations stay put, nominal yields rise by the same point, and bonds with a duration of 5 lose about 5%, Rs 1 crore, at the same moment gold loses Rs 60 lakh. Equities are also valued against bond yields and are unlikely to help. The trustee's picture of gold as the family's protection is wrong for this particular risk: in a real-rate shock, gold is one more thing that falls.
| Scenario, illustrative | Gold move | Gold P and L, Rs lakh | Does gold help? |
|---|---|---|---|
| Real yields rise 1 point | -12% | -60 | No, bonds fall too |
| Real yields fall 1 point | +13.6% | +68 | Yes, but bonds rise too |
| Rupee falls 10%, world gold price flat | +10% | +50 | Yes, a currency hedge |
| Inflation rises, real yields unchanged | about 0 | about 0 | Not by this channel |
Step 3So what role should gold play for the trust?
Name the risks gold does protect against. Priced in rupees, gold rises when the rupee weakens, and it has tended to hold value in episodes of financial stress when other assets fall together. That makes it a diversifier for currency and crisis risk, sized so that a real-rate shock costs the trust little: at 5% instead of 10%, the same 1-point rise would cost about Rs 30 lakh. If the family's real worry is inflation eroding spending power, an inflation-indexed bond protects that directly and pays a real yield while it does. Close by saying the sensitivity is loose: the 12% is an illustration, and the relationship between gold and real yields has broken down for long stretches when central bank buying or crisis demand dominated.
Where candidates lose it
The usual error is treating gold as an inflation hedge and saying it protects the trust whenever rates move. A rise in real yields is the specific move in which gold is expected to fall, because nothing about inflation changed.
The second is quoting the loss as 12% of the trust, Rs 6 crore, instead of 12% of the gold holding. Always apply a sensitivity to the position it belongs to, then scale to the portfolio.
What the interviewer asks next
- What would you expect gold to do if inflation rose 2 points and the central bank did not respond?
- How would you size gold for a family whose spending is mostly in dollars, such as overseas education?
- Why might the link between gold and real yields weaken for years at a time?
Company names and figures are illustrative.