The Hindu Business Line : ETF route to gold

The decks appear to be finally cleared for the launch of mutual fund products in India that can invest in gold. Four fund houses — the UTI, Benchmark, Prudential ICICI and Kotak — have announced plans to launch Gold Exchange Traded Funds (ETFs). Gold ETFs, when launched, will offer yet another vehicle for retail investors to invest in gold.

How they work

ETFs or Exchange Traded Funds are those that manage a fixed corpus representing an underlying asset — stocks, bonds or in the case of Gold ETFs — gold. Investors can buy or sell units in the Gold ETF, with each unit representing a certain grammage of gold held by the fund. Though investors can buy Gold ETF units from the fund house during the initial offer period, subsequent transactions will have to be routed through the stock exchanges, where the units will be listed and traded at NAV-based prices. Like other mutual fund products, Gold ETFs will publish their NAV on a periodic basis and this would be linked to the prevailing gold price. Under the present regulations, Gold ETFs in India will track London gold prices expressed in US dollars, and will represent `standard' gold of 99.5 per cent purity.

Why the ETF route

What are the pros and cons of investing in Gold ETFs, in comparison to buying gold bars? One, Gold ETFs allow you to invest in gold even if you have a small investible surplus. Instead of waiting until you accumulate enough funds to buy a 50 gm gold bar, you can make an investments in gold ETFs with an outlay of just Rs 10,000, to start with. You can also gradually build your exposures by buying additional units as and when you can afford them. Second, you can phase out your investments in a Gold ETF over a period of several months or years, so that you do not invest lumpsum at a single price.

Gold prices have tended to be quite volatile in recent times and investors often try to time their purchases by tracking market prices of gold on a daily basis. However, a badly-timed purchase can expose the investor to the risk of value erosion, if gold prices decline. Third, when you take the ETF route, you can invest in gold without worrying about the purity issues that usually dog jewellery purchases. Finally, because you can liquidate your ETF units at NAV-based prices through the stock market, they may offer better liquidity at prices closer to the market than gold bars or jewellery.

There could be a couple of disadvantages to investing in gold through the ETF route. One, returns on Gold ETFs may be lower than those on physical gold by virtue of management fees, transaction costs and other operational expenses levied by the fund house on the fund's NAV. Second, if the ETF units are not actively traded in the stock market, you may not be in a position to exit your holdings at the time or price of your choice.

However, these risks appear unlikely to play out in practice. Competition between different ETF products may ensure that these products generate returns that are pretty close to those generated by physical gold. The problems associated with liquidity may be sorted out if the idea of Gold ETFs really catches on with investors.

Please send suggestions and queries to younginvestor@thehindu.co.in, or The Research Bureau, The Hindu Business Line, 859-860, Anna Salai, Chennai-600002.