Is it Better to Invest in Gold ETFs or Physical Gold in India?

Posted On Tuesday, Nov 20, 2012


India has always been a country that has historically invested heavily in Gold. There are several factors governing the purchase of gold in urban and rural India.

People in rural areas of India buy gold because of lack of financial inclusion. Rural areas do not have adequate financial facilities catering to the needs of people there. Of paramount importance to the rural audience is safety and liquidity for the money they have. They have found their answer in gold. They wear their gold on their body which makes it safe. In times of crises they can borrow against their gold and get money against it any time which makes it highly liquid. Unless we have enough financial inclusion that completely addresses the above requirements; demand for gold from rural India is here to stay. The impetus that drives an urban investor towards gold is completely different. India seems to be struggling with a sticky and structural inflation problem. High inflation rate often drives real interest rates into negative territory. Real interest rates are the difference between nominal interest rates earned on a fixed return investment and the prevailing inflation rate. What concerns an investor is the consumer price inflation which is currently close to 10%. With fixed deposits offering a rate close to 9%; the real interest rates are currently negative to the tune of -1%. This means that an investment in fixed deposit is actually losing 1% of your hard earned saving every year on a real basis rather than increasing your wealth. It`s akin to punishing the savers. We have time and again seen the real interest rates dig deeper into negative territory leading to real wealth erosion. Gauging from the investors feedback, the belief that gold acts as a store of value over long time periods and that it will continue to do so drives investors towards gold. And they have been rightly rewarded so far. The fact that it also acts as an effective portfolio diversifier given its negative correlation to other asset classes also drives people to make gold an integral allocation of one’s portfolio.

Although the government aims at discouraging consumption; it`s unlikely to abate. We are nowhere close to deepening financial inclusion in rural areas. Nor are there any signs of cooling of inflation pressures that could possibly drive real rates into the positive. The current global financial crisis has only highlighted the importance of gold in one`s portfolio and more investors are looking at making gold a part of their long term portfolio.

And such is the trend to which we stand witness; investments in gold are increasing. The rush for gold has investors confused about the right way of owning gold - `Is physical gold better?` they ask ‘Or should I invest in ETFs?`

Indeed there`s no alternative to buying jewellery purchased for adornment purposes. Women in India have a high fascination for gold jewellery, as most men might testify, and there`s no other substitute than to buy it from jewellers. Investors need to recognize the fact that there is a difference between buying gold for ornamental value, and buying gold as an investment.

Exercise prudence while investing

Owning gold is very important, and desirable, for all investors. But the `golden` question is - how should one invest in gold? The facts say that most of the investment in gold in India is in the form of jewellery. But that is not the best way to invest in gold.

When investing in gold through jewellery purchases, there are making charges, mark up (profit margins) and also high liquidation charges plus the risk of purity.

Would you ever invest in a mutual fund which charges high entry and exit load, and whose quality of investments is doubtful?

Of course not! The same way, investing in gold in the form of jewellery is not the most prudent way of investing in gold. Earlier, there were gold import controls that restricted holding gold in other forms forcing people to buy gold in jewellery as a mode of investment.

But, now the sector has been opened up, Indian prices move in sync with international prices and there are better options like Gold ETFs available for investments.

So, investors would do well to make it a rule of the thumb - to purchase Gold ETF`s for investments and jewellery for ornamental purposes - this bifurcation would indeed help investors.

Gold ETFs - The "Best Financial Innovation"

Imagine if you were able to buy gold at prices very close to those at which tonnes and tonnes of gold get transacted between a producer/ refiner and a bullion bank or any other big institutional investor. No making charges, no premiums involved! You can buy even 1/2 gram of gold at such prices. That`s the beauty of gold ETFs.

Gold ETF`s relieve buyers from the heavy premiums that are usually associated with buying gold in physical form at the retail level - be it coins / bars or gold jewellery.

It comes with added advantages like no purity concerns, no hassles of safe keeping and is more tax efficient. Every unit is backed by physical gold. Gold ETFs are "as good as Gold"; rather a more efficient, convenient and hassle free way of owning gold.

Gold ETFs have been increasingly becoming investor`s vehicle for owning gold. With increasing awareness of the efficiency and added advantages of Gold ETFs over other forms, it would indeed be the most preferred form when it comes to investments in gold.

Statutory Details and Risk Factors:

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
Risk Factors: All Mutual Funds and securities investments are subject to market risks and there can be no assurance that the scheme`s objective will be achieved and the NAV of the scheme(s) may go up or down depending upon the factors and forces affecting securities markets.
Investors in the Scheme(s) are not being offered a guaranteed or assured rate of return. Investment in mutual fund units involves investment risks such as trading volumes, settlement risk, liquidity risk, default risk including possible loss of capital. Past performance of the Sponsor / AMC/ Mutual Fund does not indicate the future performance of the Scheme(s). Statutory Details: Quantum Mutual Fund (the Fund) has been constituted as a Trust under the Indian Trusts Act, 1882. Sponsor: Quantum Advisors Private Limited. (liability of Sponsor limited to Rs. 1,00,000/-) Trustee: Quantum Trustee Company Private Limited. Investment Manager: Quantum Asset Management Company Private Limited (AMC). The Sponsor, Trustee and Investment Manager are incorporated under the Companies Act, 1956.

Above article is authored by Quantum.

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