Should you invest in Gold ETFs?

Gold Exchange Traded Funds (ETFs) are a relatively new concept in the Indian mutual fund history. The first Gold ETF was launched in February 2007. At present, there are six gold ETFs in the Indian market, with only two having a performance history exceeding one year. Presently, investors have two options if they want to invest in gold. The first option is to buy gold physically which is the conventional method. The second option is to invest in Gold ETFs.

Are gold ETFs investments in gold? It can be yes or no; traditional sense, no. So, what is really a gold ETF investment all about? The fund house that issues these gold ETFs certificates buy gold from the physical market to the extent of your investment and when you want to liquidate your position it simply sells the gold in the physical market and the proceeds calculated at the spot prices are given to you. So, an investor in ETF is neither entitled to receive gold nor does he can sell ETF to get gold. Moreover, he cannot even exchange ETF for gold. These ETFs are listed on the NSE and can be purchased and sold on the NSE as if you are dealing in the gold bullion market, but without trading physically in gold.

Therefore, an investor invests indirectly in gold but never gets to possess the metal physically. Since, it is listed on a stock exchange; investors can buy and sell them like any other stock on the stock exchange, on a real-time basis. Hence, Gold ETFs offer a rather unique investment opportunity to investors who want to invest in gold. Investors should select the option that best suits to them.

Should you invest in Gold ETFs?

Now, the obvious question is, is it worth investing in Gold ETFs? If we look at the performance of these funds then yes. At a time when the stock market is in doldrums, investments in Gold ETFs sound good as they have proven by giving good returns. From an investment point of view, what should be the investment objectives for the investors? Well, investment objectives should be good and consistent returns.

Let’s look at some basic factors about gold. What rives gold prices? Geopolitical events, a steep rise in crude oil prices and unstable currencies (esp. dollar) drive gold price volatility. Gold moves in the opposite direction to the dollar as it is seen as an alternative asset. This is because dollar began circulating world wide after World War I, when completely damaged European powers started borrowing from the US. With the passage of the Bretton Woods international monetary agreement, dollar was the only currency pegged to gold. Other currencies were pegged to dollar.

Dollar reigned over the world for many years. But, with the introduction of the Euro, dollar started weakening. The decade of 90’s saw many emerging economies whose currencies started strengthening against dollar. Ultimately, dollar saw some competitions. With the announcement of few countries including Iran to sell crude oil only in Euro, it seems a red alert for dollar. So, as dollar weakens, gold prices strengthen. Also, with crude prices touching new sky everyday, it seems the stock market will take time to bounce back. So, as an investor you should look at every opportunities to increase your returns.

Many people argue that gold can never match the equity market returns. That seems to be true if we compare the long term returns say of 10 years. Gold is not among the top asset classes in giving long term returns. Like every other commodity, gold goes through cycles- only the cycles seems to be longer. Since last seven years, gold had an amazing run and has given very good returns.

If we look at the long term say ten years, then the returns are average. In fact, stock market has given better returns. But, in short term or rather to diversify your portfolio, investment in gold looks good. Gold is highly volatile though less than Sensex (Bombay Stock Exchange 30 share Index).

Objectives may vary from person to person. Gold ETFs offer investors a convenient means to invest in gold. But, this may not sound appropriate for all investors. So, Gold ETFs would probably be appropriate for investors who wish to invest in gold in bulk and are likely to face storage problem. Also, those investors who do not have time to do a quality check, can look at investing in gold through ETFs.

One special reason for investing in Gold ETFs can be to avoid wealth tax. If you have wealth in excess of Rs.15 lakh, you are liable to wealth tax. Gold held in physical form is counted towards this figure. But, when you invest in Gold ETFs, you are holding it as units of mutual funds. Capital gains on units sold of such MFs, is termed as long term if held for more than one year. Hence, no tax as long term capital gain tax is zero. Same is true for physical gold but, for that you will have to hold it for three years. So, this adds uniqueness to Gold ETFs.

At the same time, investors should keep in mind that there is one disadvantage of investing in gold ETFs apart from recurring expense. If a fund house declares a dividend on gold ETFs, dividend distribution tax will have to be borne by the investors.


Things to look while investing in Gold ETFs

As an investor you should avoid investing in Gold ETFs during the new fund offer (NFO) period. This is because you will have to pay an entry load during this period. Gold Benchmark Exchange Traded Scheme (Gold BeES), launched in February 2007, charged an entry load of 1.5 per cent. Similarly, UTI Gold Exchange Traded Fund, launched in March 2007, charged an entry load of 2.5 per cent. Hence, you should avoid investing in these funds during the NFO period. Instead, you can invest in these funds when they are listed on the stock exchange and thereby avoid bearing entry load. In this case, you will have to pay brokerage to the broker. Brokerage differs with different broking firms. So, you can choose that broking firm that charges brokerage less than the entry load.

Second is the other expense that you should keep in mind while investing in Gold ETFs. A pre-requisite for investing in Gold ETF is to have demat and trading account with the registered broker. You will have to pay some annual charges for the maintenance of these accounts which depends from broker to broker. Also, there is some recurring expense attached with the fund that you will have to pay.

But, if you have a bank locker, it is better you invest in physical gold as you don’t have to worry about where to store it. Also, an existing bank locker means that you don’t have to pay any additional recurring charges.