We Indians and gold are inseparable. We Indians just love to buy gold. And these days, gold can be bought in non-physical modes as well. So people are asking questions like:
- Should I invest in Gold ETF vs Gold bonds in India?
- Should I buy Sovereign Gold Bonds or Gold ETFs in India (in 2020-21)?
These questions worry most gold buyers who don’t want to invest in gold via physical gold route.
I ran a small poll on Twitter and this is what I found from a set of about 3100+ voters:
Of course, Twitter may not be representative of the entire investor community but a sample size of 3000+ proves that still, physical gold and jewellery rule the roost. That is, traditional, consumption-oriented requirement is what drives buying of gold.
It wouldn’t be wrong to say that the default route for Indians is to buy gold jewellery. And if it’s for investments, they go for gold bars and gold coins.
We will shortly begin are discussion of Gold ETFs vs. Gold Bonds. But whichever route one takes, the investors need to understand something about the behaviour of gold prices.
Gold is not like your regular stocks or bonds. Gold doesn’t have any intrinsic value or cash flows. So we can’t simply go for the valuation of gold in investment terms. The gold prices are more about the demand-supply equation at any point in time and factors affecting this equation (like financial crisis, geo-political issues, seasonal demands, etc.).
As a result, the price of gold has a typical pattern. And this pattern is occasionally accompanied with high volatility. Gold has got a bad name for giving lumpy returns. That is, it does nothing for years but suddenly out of the blue, it gives great returns occasionally that pushes up the long term averages (read how averages work in this interesting take: how 6 feet tall man can drown in a river of average depth of 5 feet).
So for a lack of better word, and like equity investing, even gold has a timing angle to it. So maybe, if you want to time gold investments, it’s about accumulating it in years (or period) in which it hasn’t been giving great returns.
But let’s not discuss about timing of gold investments for now. Let’s focus on whether to invest in sovereign gold bonds or gold ETFs in India.
As mentioned earlier, physical gold is still a favourite.
But from an investment perspective, there are other ways to invest in gold like gold ETFs, Gold Funds and SGB (Sovereign Gold Bonds).
Let’s compare these.
Sovereign Gold Bonds in India (2020-21)
I have written in detail about the features of SGBs in India. You can read it to understand the details. But for a reminder, here is a refresher below:
The Sovereign Gold Bonds (or SGBs or popularly called Gold bonds) are bond securities denominated in weight, i.e. grams (gms) of gold. You can invest anywhere from 1 gram to 4 kilograms of gold in SGBs. These come with sovereign backing and are issued by Reserve Bank of Indian (RBI) on behalf of the Indian government (to know more, check additional details via RBI’s site link).
SGBs are issued through limited period offers that are open about 5-6 times a year (read more about the Sovereign Gold Bond schedule in India). At the time of opening of subscription, the investors have to pay the issue price of the series.
The tenure of the Sovereign Gold Bonds is 8 years from the date of issue. But for those who do not want to stay put for 8 long years, there is an option for early exit or premature redemption of Gold Bonds. One can exercise this option after a lock-in period of 5 years. So if an SGB subscriber wants, they can redeem their investments in the 5th, 6th, 7th and 8th years (on interest payment dates). But remember that no redemptions are allowed before completion of the 5th year.
And what to do if one wants to exit even before the 5th year?
These gold bonds become tradeable on stock exchanges within 14-15 days of issuance. So the SGBs can be sold in the secondary market before the 5th year. But make a note of the point that the when you sell bonds on an exchange, the market price of the bond today or gold bond rate today may be lower or higher than its original price on which it was issued to you initially.
To check how each of the previous announced SGB Series is trading, check this link on NSE’s site.
Now comes the best part about SGBs.
The SGBs are designed to track the price of gold. So the returns you can expect from these should be similar to returns from gold prices.
But SGBs offer something else too. Something additional.
An additional 2.5% per annum of fixed interest. This interest is paid semi-annually on the original investment value and not the current market value of gold. So let’s say you bought gold bonds at the rate of Rs 4400. Now the prices have risen to Rs 5100. Then the additional 2.5% interest will be paid to you on Rs 4400 which is the initial investment amount and not the current value of Rs 5100.
So if you have a long investment horizon (say more than 5 years) and don’t need liquidity, then Sovereign Gold Bonds (SGBs) could be a good option.
The golds bonds are issued several times a year by the RBI in different tranches that are priced at different levels – based on the simple average closing price (published by the India Bullion and Jewellers Association Ltd or IBJA) for gold of 999 purity of the last three working days of the week preceding the subscription period. To know more about the historical issue prices of these bonds since the start of SGB gold bonds in 2015, please refer to the detailed post titled Gold Bond Issue Price History (Since 2015).
Gold ETFs in India (2020-21)
Gold ETF is an exchange-traded fund with physical gold (99.5% purity) as the underlying asset and generally, the unit price of gold ETF is linked to the price of 1 gram of 24k gold. These Gold ETFs are listed on exchanges (NSE, BSE, etc.) where they can be bought or sold like normal stocks.
The major benefit of investing via Gold ETFs is that its ease and transparency with which you can invest in Gold. And you get to take exposure to this precious metal in a cost-effective manner, at prices that are more or less similar to the on-going prices of gold for the day in real-time.
Since Gold ETFs can be traded only on stock exchanges, you need to have a Demat account in order to buy or sell Gold ETFs. This means that there is an additional cost of Demat and brokerage charges on the execution of the buy/sell transaction. In addition, ETFs also have expenses associated with them that can be 0.3-0.8% per year.
Many people look for the best gold ETFs in India. But remember that gold ETF just tracks the gold price. So apart from the small tracking error, most gold ETFs will provide similar returns. Of course, different ETFs will have different liquidities and that is something very important that investors should make a note of before picking a gold ETF to begin investing in.
Here is the list of different Gold ETFs available in India (in alphabetical order):
- Axis Gold ETF (AXISGOLD)
- Birla Sun Life Gold ETF (BSLGOLDETF)
- Canara Robeco Gold ETF (CANGOLD)
- HDFC Gold Exchange Traded Fund (HDFCMFGETF)
- ICICI Prudential Gold Exchange Traded Fund (IPGETF)
- IDBI Gold ETF (IDBIGOLD)
- Kotak Gold Exchange Traded Fund (KOTAKGOLD)
- Quantum Gold Fund (QGOLDHALF)
- Reliance Gold Exchange Traded Fund (RELGOLD)
- Religare Gold Exchange Traded Fund (RELIGAREGO)
- SBI Gold Exchange Traded Scheme (SBIGETS)
- UTI GOLD Exchange Traded Fund (GOLDSHARE)
And if you are planning to invest in gold ETFs, make sure to stick to the ETFs that have high trading volumes (i.e. better liquidity) and as a result, less price distortion relative to the ETF NAV.
So if you are looking at a more liquid option (than gold bonds) to invest in gold, then you can consider these gold ETFs in India. But remember that these do not offer any additional interest income. The capital gains are also taxable unlike SGBs (we will discussion taxation shortly).
Let’s just summarize the difference between SGB Vs Gold ETFs.
Difference between Gold Bonds Vs Gold ETFs
- Returns: Since SGBs track gold prices and offer an additional 2.5% interest, SGBs score over Gold ETFs which don’t have the additional interest component. In gold ETFs, it’s simply about your return is equal to the appreciation in gold prices during the holding period.
- Liquidity: Gold ETFs are more liquid than SGBs. If you check exchange date (link), you will see that most gold ETFs in India get traded sufficiently that small investors of gold ETF will not face much of a liquidity risk. On the other hand, if you check SGB trading data, the volumes are very low currently. So in liquidity, gold ETFs do better.
Let’s also look at taxation in a bit more details as it’s a little complicated:
Taxation of Gold ETFs and Gold Bonds
Here is how Gold ETFs are taxed:
- If you generate short-term capital gains on the sale of gold ETFs funds, i.e. gains generated in less than 36 months, then these gains are taxed at the income tax slab rates applicable to you.
- If you generate long-term capital gains on the sale of gold ETFs, i.e. gains generated in more than 36 months or 3 years, then these gains are taxed at 20% (plus any cess) with indexation benefits (i.e. indexation allows you to adjust the purchase price of gold for inflation based on the latest inflation CII index numbers).
The Sovereign Gold Bonds have different aspects to their taxation.
- The 2.5% interest income that is generated by Gold Bonds is taxable. At what rate? The interest income is added to the total income and taxed as per an individual’s income tax slabs.
- The capital gains generated when you redeem SGBs between 5 and 8 years is tax-free, i.e. exempted from taxes. So you don’t need to pay any capital gain tax if you hold your Sovereign Gold Bonds till their full maturity.
- Even before their maturity after 8 years, the gold bonds can be bought/sold on the exchanges just like normal equity stocks. So gains/losses from the sale will be considered as capital gain (or loss). But here again, your holding period shall be considered for deciding the type of capital gains. So if you sell within 36 months (or 3 years), then it’s considered as short term capital gains. But if sold after 36 months, then it is considered as long term capital gains. And you already know that the short term gains are taxed as per income tax slab and the long term gains are taxed at 20% with adjustment for indexation.
To read in more detail about the taxation aspect of gold investments, read the post on Taxation on Gold in India.
There is another option for investing in gold. These are Gold Funds.
Gold Funds in India (2020-21)
These are simply mutual funds that invest in gold ETFs. So it’s a way of taking exposure to gold ETFs without buying the directly or via Demat account. Simply put, when you purchase (or invest in) a gold fund, the gold fund further invests in the underlying gold ETF only. But it carries an extra layer of costs towards management fees that reduces returns a bit when compared to gold ETFs.
Now comes the question:
Sovereign gold bonds or ETFs: Which is a better investment?
- If you are planning to use gold as a tactical part of your portfolio which you will have to regularly buy and sell, then you need to value liquidity more. And hence, investing in gold ETF is more convenient.
- If you plan to hold a large corpus in gold for the short term, then having it in SGB will mean that you will need large volumes on exchanges to exit your positions. But that is not feasible currently due to poor volumes of various SGB series of stock exchanges.
- But if you are investing for the long term and are sure that you won’t need to exit before 8 years or so, then SGB may be a better option.
- Or a combination of SGBs and ETFs can be taken to gradually build up an allocation to gold in your long term portfolio. This will provide a good balance of liquidity (via ETFs) and higher returns (via SGBs).
That is all about the differences between gold bonds and gold ETFs.
Let me talk a bit about the role of gold in your investment portfolio.
Remember, gold is not like equity and debt. So you need to be careful in handling it and adding it to your portfolio.
Should you buy Sovereign Gold Bonds? Or Should you buy Gold ETFs?
The answer should be given after properly assessing your requirements, risk profile, liquidity requirements and existing portfolio.
How much Gold to hold in your Investment Portfolio?
There is no one right answer here, to be honest. But in general, having some exposure to gold (ranging from 5-15%) in long term portfolio is advisable.
It’s worth mentioning that gold is more of a diversifier in your portfolio and a kind of hedge. It generally shouldn’t be the core of the portfolio unless you know what you are getting into. Remember, gold returns are very lumpy. They don’t move much for years and suddenly, shoots up. So increase the exposure when returns have been bad for some time and accumulate. And when it shoots up and you have ridden the wave a bit, its best to reduce exposure. I know all this sounds like timing but that is how it is.
I would suggest not trying to buy a lot of gold (via Gold bonds and/or gold ETFs) in one go. It’s best to spread your investments in gold. And since both gold SGBs and gold ETFs have their advantages and disadvantages, it makes sense to gradually use both for your long-term investments. That is, investors can hold a combination of SGBs and gold ETFs. How? You can use purchase SGBs occasionally when new series are announced and you have funds available to invest. This can be augmented by purchasing gold ETFs when there are temporary short term corrections in gold prices. Or if you want to accumulate gold regularly, then do a SIP in Gold ETFs every month. Plain and simple. So that is my answer to your question about Is Gold ETF better than Sovereign gold bond or is gold bond better than gold ETF?
Most Indians still prefer to buy gold via physical (or jewellery) route. But given the convenience and additional features that Gold Bonds Vs Gold ETFs offer in India (2020-21), it is high time that investors should start investing in Sovereign Gold Bonds Vs Gold ETFs (Exchange Traded Funds) to purchase gold for investment purposes. I hope you found this comparison between gold bonds and gold ETFs useful.