Global Outlook

Gold ETFs have made investing in the yellow metal more convenient and competitive

Contributed by Nirmal Bang

By Nirmal Bang

Gold recently touched new record highs and has been rewarding investors richly. It has outperformed all other classes of investment in the past one year.

But the billion dollar question or rather the bullion dollar question is whether gold will continue its upward trajectory or whether the current rally has peaked out in the near term.

Whatever the answer, one thing is for sure, gold as an asset class is indispensable and should form an integral part of each and every individual’s portfolio. This is because the yellow metal has proved to be the best hedge against inflation, the asset with maximum liquidity, a financial protection during times of economic or political crisis or war as well as a proven entity with the least value erosion as compared to other asset classes such as equity, debt instruments, commodities, etc.

With the dollar getting weaker with each passing day, investment in gold has been rising steadily with gold becoming the natural fall back safety net against currency erosion.

The quantum of amount allocated varies from individual to individual and is basically governed by the risk appetite, fund availability, goals and the time frame in which these goals are to be achieved.

There are a variety of ways by which an investor can invest in gold. He can buy gold in the physical form namely gold bars, gold biscuits or gold jewellery. There is also the new kid on the block called gold ETFs (Exchange Traded Funds).

Buying gold in physical form is something that is genetically ingrained in each and every Indian and hence it won’t be appropriate to waste our time and resources understanding the nuances of buying and selling physical gold. Instead, what we need to do is understand what a gold ETF really is and what are the distinct advantages that gold ETFs offer as against physical gold.

What really is a gold ETF? A gold ETF is basically an open-ended mutual fund that invests in standard gold bullion as its underlying asset. It is also known as paper gold. These instruments are listed on the stock exchanges and, hence, can be bought and sold just like buying and selling of shares.

In essence, it is exactly like a normal mutual fund. The only difference is that while other mutual funds invest in equity and debt-related instruments in particular, gold ETFs invest in gold.

Just as equity shares are no longer held in physical form and are stored electronically in demat accounts to facilitate easy transactions and prevent loss due to mutilation, theft and other causes; a gold ETF is like a bank wherein an investor can store his gold in an electronic format to thwart the threat of all forms of hazards and hassles that arise out of holding physical gold.

An investor is issued units in accordance with his investment amount. Generally, one unit represents one gram of gold. But there might be exceptions based on the different fund houses. The NAV of an ETF changes in accordance with the price movement of gold. The only prerequisite before investing in gold ETFs is a demat account and a trading account with a broker.

Gold ETFs are passively managed funds because the fund manager has to manage only one underlying, that is gold and hence not much portfolio monitoring or portfolio churning comes into play here.

There are certain inherent advantages of gold ETFs in comparison with physical gold. They are:

PURITY

This is one of the most important factors why one should go in for gold ETFs. While buying physical gold, the buyer can never be 100% sure about the purity of the gold being offered. There is always a risk of cheating, mixing, physical and chemical impurities, etc.

The individual may not get his money’s worth. Whereas in a gold ETF, the problem of quality concern does not arise because the gold is in its purest form.

STORAGE

The most important concern for the buyer of physical gold is storage. The first and foremost thing to do is to search the right place to store the purchased gold. It usually is a person’s home or a bank locker. But the risk of theft always looms large. But in case of gold ETFs, since the gold is stored electronically, there is no need to worry about the theft of gold.

MAKING CHARGES

When a person purchases gold, additional charge is recovered by the seller in the form of making charge. The cruel part is that although he pays this charge while buying the jewellery, he is not able to recover the same when he goes to sell his jewellery.

In fact, sometimes individuals have to sell the same jewellery at a discounted rate. But with gold ETFs, since there is no making involved, the question of making charge does not arise.

EASE OF QUANTITY

It is not always practically possible to buy small quantities of gold, say 1 gram of gold from the physical market. But with the advent of gold ETFs, buying gold in quantities as small as 1 gram is now possible.

DEMOGRAPHIC VARIATIONS

The pricing of gold tends to vary from vendor to vendor. But with gold ETFs, there is uniformity in pricing across the board.

However, there is a small disadvantage of gold ETFs compared to other mutual funds – the non-availability of SIP in gold ETFs. SIP or Systematic Investment Plan is a  facility offered by most mutual funds, which helps investors to invest a fixed amount every month for a fixed predetermined period in the investment avenue of their choice. Thus it helps them to be disciplined in their investment and aid in rupee cost averaging.

Simply put, the same amount allows the investor to buy more units when the price of the underlying asset is low and lesser units when the price is high. Hence, over a period of time, there is huge accumulation of units with different prices each month and hence the average cost of acquiring each unit of gold ETF gets considerably reduced in the long term.

At present there is no such facility for SIP in gold ETFs and so in order to gain maximum benefit from the ETFs, an investor should personally see to it that he religiously buys gold ETFs worth a fixed amount, each month without fail and sets a self-monitored, self-disciplined SIP to tide over gold price fluctuations.

Currently, there are a number of fund houses that have gold ETFs in the markets. Some of these are Benchmark Mutual Fund, Kotak Mahindra Mutual fund, UTI Mutual Fund, Reliance Mutual Fund, Quantum Mutual Fund and SBI Mutual Fund.

It might be very difficult to change the fixed perception and fixation of Indians to buy gold in the physical form as they have been doing it for centuries together. But when something so simple and safe is available in the market, it wouldn’t hurt anyone to give it a shot and see the wonders it has to offer.

Gold ETFs can change the way gold is bought and sold in India and it makes perfect sense to capitalize on it as soon as possible to build up a huge corpus in the long run.