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Good old gold in new bottles: Where should you invest?

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Should you invest in Gold?

Chenthil Iyer, a Sebi registered financial advisor, points out that gold is the go-to storage of money during times of recession and hyperinflation. Also, it’s a rare metal, so its prices increase over time. Therefore, a healthy amount of investment should go into gold to give a much-needed stability to the overall portfolio.

In the last five years, gold returns were around 11.7% per annum (p.a.), and in last 2 years (2020 and 2021), it was a sharp 19% pa. But what needs to be pointed out is that in 2020, the returns were 38%, but in 2021, it was only 0%. Gold is extremely volatile and bounces up and down frequently; in the longer term, there was one point when the returns were -20%, while the highest was 82%. “Hence, there is no way to forecast how much returns it can provide in the coming years,” asserts Avinash Luthria, also a Sebi registered investment advisor. 

 Who should invest in Sovereign Gold Bonds (SGB)?

 “Undoubtedly, it is a fit for all. There is a sovereign guarantee. So, even if the gold prices go up steeply, the Government of India and RBI have enough gold in reserve to make sure that payments are made,” says Iyer.

For the uninitiated, SGBs aren’t actually gold investments but debt instruments, which are linked to the price of gold. That is, one unit of the SBG is priced at per gram of gold (current price). And, at maturity, its value would be at whatever is the average price of gold in the Indian market (put out by the Indian Bullion and jewellers association) over the week. There’s no guarantee that you will get your principal back. “However, in the long term, the price of gold usually appreciates significantly,” Iyer says.

Then, if you hold it for 8 years (full term), the gains from it are completely exempted from tax. “And what acts as a sweetener”, comments Luthria, “is the fact that you get a 2.5% interest on the bond yearly.”

The main concern for SGB is that the product is extremely illiquid. Firstly, you cannot buy it at any time (in the primary market), but will have to wait for the RBI to issue the bonds, which happens only once in 2-3 months. Secondly, you must hold it for 8 years to get its full benefits.

Though they can be bought/sold in the secondary markets much easily, there are a few disadvantages. For one, if you sell it before 8 years, you might end up selling it at a discounted price. And while buying, it might look lucrative in the secondary market, considering you are buying it at a discounted price, in reality, you would still be getting an interest on the price at which the first investor had bought it.

Who should invest in gold exchange traded funds (ETF) and gold mutual funds (MF)?

These were considered extremely lucrative till SBGs came into the picture, Luthria said, “Now, people might think why not just get the 2.5% p.a. interest on the SGB instead of putting the money in Gold ETF/MF.” However, that thought does not make Gold ETFs/MFs less attractive as the convenience of buying/selling them is a significant win over SGBs.

 Illustrating how they work, Luthria says, Gold ETF are traded in the stock market like shares, and they hold physical gold. And for Gold MF, he explains, “Gold ETFs and MFs are more or less the same thing, just different in structure.” Basically, all gold mutual funds just invest in the gold ETFs of the same company. That is, Nippon Gold MF invests in Nippon Gold ETF and HDFC Gold MF in HDFC Gold ETF. 

 From the invertor’s perspective, the difference is, for an ETF you need a Demat account and also it’s a little tricky to choose, meanwhile, for the Gold MFs, you can do away with these headaches for a small extra fee of 0.15% p.a. to the MF house.

Who should invest in physical gold?

Most financial planners advise against investing in physical gold. Luthria says, “The key reason to own gold is for a once-in-a-generation or two generations catastrophe like a civil war. These are very rare instances that may never even happen in our lifetime.” Arguing against the idea, Iyer says, “But, it is extremely difficult to say which generation it is going to be.”

So, if you do not want to completely depend on the government, there is no harm in owning a certain amount of physical gold. Iyer, however, cautions, “It is a dead investment if the value doesn’t appreciate (though it is rare). There are also other kinds of risks involved such as losing it or your bank being robbed.”

While speaking about jewellery in particular, Iyer says that it serves a dual purpose. You can use it and again sell it when in need. Luthria, however, reasons him out saying, “If you think of gold as jewellery to wear, there’s also a bit of an emotional negativity attached to selling.”

 Who should invest in digital gold?

You can buy digital gold for even ₹1 sitting at the comfort of your home, says Sachin Kothari, Director of Augmont Gold for All, while speaking about the advantages of digital gold.

He adds, “For SGBs, you will have to wait for the RBI to issue the bonds. And, for physical gold, there will be a specific denomination that you need to buy for, you cannot buy it for ₹100 or ₹500.”

Then comes the selling part. Kothari says, “Again, digital gold is easy to sell. SGB (though it is an excellent investment option) is a long-term product, while for physical gold, you will have to let go of the making charges, storage costs (over the years) etc.”

Also, since digital gold is backed by physical gold, you can even redeem it for the latter. “Hence, it is an excellent investment option for those saving for jewellery, especially for weddings”. Luthria, however, points out that “digital gold lacks regulatory oversight”, which makes it a risky bet.

To address this concern, a self-regulatory system has been put in place so that customers can lay their trust. Kothari points out that there is an independent monitoring agency that controls and monitors the movement of physical gold from these vaults. They also certify the quantity of physical gold that is there in the vault on a regular basis.

Now, to conclude, the demand for physical gold is massive compared to other forms of gold investments. This is mainly because of a lack of awareness of SGBs, Gold ETFs/MFs or digital gold. But with digitization, their demands are picking up among new-age investors, particularly the urban millennials.

Considering we are talking about the same asset class, Iyer asserts, “The question is not whether it suits a particular investor but how it should be distributed in the portfolio. Percentage of holding these investments can differ but gold should be part of the asset allocation anyway.”

How different gold products are taxed?

Physical gold Digital Gold Gold ETFs/MFs Sovereign Gold Bonds held till maturity Sovereign Gold Bonds sold in secondary markets
For less than 3 years, it is taxed at normal income tax rates according to your IT slab For less than 3 years, it is taxed at normal income tax rates according to your IT slab For less than 3 years, it is taxed at normal income tax rates according to your IT slab If the investor holds the bond for 8 years, the gains from it is completely exempt from tax For less than 3 years, it is taxed at normal income tax rates according to your IT slab
For more than 3 years, long term capital gains are applicable, and it is taxed at 20% and the investor also gets the indexation benefit For more than 3 years, long term capital gains are applicable, and it is taxed at 20% and the investor also gets the indexation benefit For more than 3 years, long term capital gains are applicable, and it is taxed at 20% and the investor also gets the indexation benefit The annual interest of 2.5% that you get on the investment is taxable at the full income tax rate For longer than 3 years, long term capital gains are applicable, and it is taxed at 20% and the investor also gets the indexation benefit
3% GST is added when it is bought 3% GST is added when the units are bought      
*The investors have to self report that she has sold it after holding it for a certain amount of time.        

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