Sovereign Gold Bond – Good but not best

Prime Minister launched much awaited 3 gold schemes on 5^th November’ 2015 and one of them is gold bond scheme which may change the investment pattern in gold. We are the largest importer of gold across globe and this disturbs our balance of payment situation. Data shows we import nearly 1000 tons of gold every year. The Government of India is trying hard since last one decade to reduce the import of gold to overcome balance of payment crisis. It has increased the import duty on gold to 12% to reduce the imports but still the results are not satisfactory. This is another attempt to divert the people from buying physical gold and buy it from designated banks and post offices.

Now there are five avenues available for gold investment. First is all time favorite physical gold buying, then Gold Deposit Scheme (which very few know), Gold ETFs, Gold Funds and now the fifth one Gold bond scheme. Gold is always looked as a hedge against the inflation and insurance against the global uncertainty. Gold also provides diversification by exhibiting low correlation with other asset class. There is madness in India to buy gold during festival seasons without knowing risk involved in it. As an asset allocation you should invest maximum 10% in gold and rest in debt and equity to fulfill your future goals. 

Investor should know the new scheme in detail before investing. There are certain advantages in the new scheme but there is always other side of the coin which you should also know. In this article I will try decode the scheme which will help you to take informed decision.

Advantages:

1) Secured:

The scheme is launched by the Government of India and Gold Bond will be issued by the Reserve bank of India and will be sold through designated banks and post offices and hence it’s much more secured. What happened in gold scheme of NSEL is a recent experience so this scheme is secured and will definitely give peace of mind to investors.

2) Interest Income:

The investors will be paid fixed rate of interest of 2.75% p.a. payable half yearly on the initial value of investment amount. This is another good reason as except in gold deposit scheme you will not get any interest on gold investment. If you are investing through Gold ETFs and Gold Funds you will also save on fund management charges of around 0.50% to 1%. Gold investment with assured return makes it more popular compared to  other options.

The interest earned is taxable as per individual tax slab but the capital gain will be treated as long term capital gain with indexation benefit which will reduce your tax liability to very nominal.

3) Tracking error:

If you invest through gold ETFs or Gold Funds of mutual fund your investment is likely to be affected by tracking error of the fund. You will be surprised to know that at present one year return of this schemes ranges from -7.20% to +2.50%. The difference is too high and this error will not be there in gold bond as the redemption price is linked to price of 999 purity published by IBJA.

Other side of coin:

1) Closed ended scheme:

The scheme is just like closed ended scheme wherein in the scheme is opened for few days and will mature after fixed tenure of 8 years. There is no clarity about the ongoing offerings of the scheme. I always prefer open ended schemes where entry and exit is not restricted beyond reasonable period. Gold investment is not one time activity but you need to buy gold in regular intervals as per future need.

2) Not Liquid:

Investment needs to be judged on three parameters, risk, reward and liquidity. There is moderate risk in the scheme but it is not liquid. If you need money in between you can’t withdraw before completion of 5 years. Liquidity should be available as the life is not so smooth and every person has to pass through good time and bad time in his career. Liquidity is not always require for funding any future goal or unexpected expenses but liquidity also helps you to switch to other options if your investment is not performing well compared to other options or rebalance the portfolio as per desired asset allocation.

3) Can’t set up SIPs:

I always allocate 3% to 10% of monthly surplus towards buying gold depending on client’s future need while preparing financial plan. The amount is fixed per month and mostly there is no scope for changes in between unless client’s income increases. In this scenario monthly SIPs in the Gold Fund is the better option where review and monitor of the plan becomes easy. You must know that you can invest Rs. 500/- also by way of monthly SIP in gold fund wherein you need to invest minimum Rs. 5,500/- in new scheme as you need to buy minimum 2 grams of gold.

SIPs in gold fund always reduce your overall risk over a period of time and gives you advantage of rupee cost averaging, which lowers the average cost. Charges in the gold fund are higher than gold ETFs, still I prefer gold funds because of the availability of the monthly SIP option. The other plus point of gold SIP is that there is no needs to open demat account. There is no doubt that charges in ETFs are low but the brokerage per transaction and demat charges payable in ETFs reduces the gap between Gold ETFs and Gold funds charges.  

I fail to understand if the Government was so serious to curb the physical gold selling then why it simultaneously launched gold coin scheme. The problem of gold buying is related to black money generation and unless this black money problem is resolved nothing is going to change. The white money already started coming in mutual fund via gold ETFs and gold funds and industry has around corpus of Rs. 7,500 crores in gold schemes. Let’s hope for the best that new scheme help us to reduce burden on current account and divert the fund towards economic development of the country.

The scheme is a good option but not the best in the category. Another important thing is it should match your time horizon of the future goal and also investment in gold should be restricted to certain percentage of your portfolio.

This article first appeared at indianotes.com

http://www.indianotes.com/Finance-How-to/Sovereign-Gold-Bond--Good-but-not-best/198425/2/T