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Your Guide to Gold as an Investment

An intro to gold as an investment, its performance comparison to other asset classes, and how we can buy gold and invest in gold.
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The Importance of Gold as an Investment

Most Indian households own some gold for one or more above mentioned reasons. As gold is so important to us Indians, we will discuss gold as an investment in this article.

Whenever we say the word “gold” in front of any Indian, it evokes different thoughts. Some of the thoughts that come to mind when we hear or talk about gold include:

  1. Emotional value,
  2. Investment product,
  3. Hedge against inflation,
  4. Something to flaunt,
  5. A privilege to hold,
  6. Alternate to currency,
  7. Safe during uncertainties

Gold Investment Demand in India

There is a lot of demand for gold in India and very little of it is produced in India. Hence, India is one of the world’s largest importers of gold. In 2019, the total annual gold demand was 690.4 tonnes. In 2020, the total annual gold demand was 446 tonnes. The demand in 2020 got dented due to economic uncertainty, job losses, limited supply of logistics, and record-high gold prices.

Role of Gold

Gold has played various roles from time to time.

  1. Gold as money: Before currency notes came into the picture, gold was used as money and a standard to value other things. Now, gold is mainly used for consumption and investment purposes.
  2. Gold as an investment product: Some people buy gold as an investment product and hold it for capital gains. The investment returns given by gold are discussed in the latter part of this article.
  3. Gold as a consumption product: Some people, mostly Indians, buy gold in ornaments and use it as a consumption product.

Gold is primarily a commodity. Like all commodities, its price usually depends on demand and supply. However, the price of gold gets influenced by other factors like the US Dollar, how much gold central banks are buying/selling, crude oil price, economic uncertainty, inflation etc.

Performance of Gold as an asset class

While gold plays various roles, one of them is that of an investment product. So, first, let us look at the price performance of gold in the last 30 years.

Chart 1: Returns are given by gold in the last 30 years

As we can see from the above chart, 30 years back in 1991, the price of gold was around Rs. 233/gram. As of 6th May 2021, the price is 4294/ gram. So, in the last 30 years, the price of gold has multiplied 18 times giving a compounded annual growth rate (CAGR) of around 10%.

Comparison of Gold Performance with Equity

Having seen the returns given by gold as an asset class in the last 30 years, let us compare this performance with the returns provided by the BSE Sensex Index.

Chart 2: Returns given by Sensex in last 30 years

In 1990, the Sensex touched 1000 for the first time. In 2021, the Sensex crossed the level of 50,000. If an investor invested in Sensex companies in these 30 years, then his/her investment would have grown by a whopping 50 times, giving a CAGR of 14%.

Although Sensex has given better returns it will not be a fair comparison. Many investors invest in gold as a hedge against inflation and invest in equity to earn inflation-beating returns. Gold has performed well as an asset class when you consider this.

Overall asset allocation: Gold vs other asset classes

Every investor should have gold as a part of their overall asset allocation. Based on the investor’s risk profile, age, financial goals, time left to achieve financial goals, etc., the percentage allocation to gold may vary.

Various asset classes move in opposite directions in phases. An excellent example of this was seen in 2020. In March 2020, the equity markets plunged and then recovered gradually over the year. Interest rates fell sharply. But, during this period of uncertainty, gold gave one of the best returns in the last many years. Hence, it is essential to have gold as a part of your asset allocation.

Image: Gold performance in 2020

As can be seen from the above image, gold gave returns of around 24% in 2020 which was one of the best returns in many years.

Reasons Why People Buy Gold as an Investmen

In 2020, the World Gold Council (WGC) released a survey report titled “Retail Gold Insights: India Jewellery”. According to this report, the reasons why urban and rural women buy gold are completely different. Most urban women said they bought gold for security, store of value, and display of wealth. Most rural women said for them gold was an aspirational purchase and a means of commanding respect.

(Source: https://www.livemint.com)

As mentioned above, most people buy gold as an investment product or for consumption in the form of ornaments. Some of the other reasons why people buy gold include:

  1. Wealth creation: Gold is one of the favoured investment products for wealth creation. Some people also consider gold ownership as a status symbol or sign of prosperity.
  2. Hedge against inflation: Gold is considered a hedge against inflation. When the purchasing power of money goes down during times of high inflation, people usually buy gold as it does well during such times.
  3. Haven: Gold is considered a haven during times of uncertainty like war, pandemic, political instability, recessions, etc. Hence, people buy gold during uncertainties.
  4. Tradition: It is a tradition to buy gold during marriage, anniversaries, childbirth, festivals. Gold is a trendy gift during these events.
  5. Auspicious days: People buy gold on days like Dussehra, Dhanteras, Akshaya Tritya, etc., as it is considered auspicious to buy gold on these days.

Ways of Buying Gold Investments

We have understood the reasons why people buy gold. Now, let us know the various ways of buying gold.

  1. Jewellery

Many people buy gold jewellery in ornaments like rings, chains, bracelets, earrings, etc. These ornaments are used for wearing during festivals, family functions, etc. A lot of ornaments get passed on from one generation to another. There is an emotional value attached to these ornaments. For example, parents give gold ornaments to their daughter during her wedding as “Streedhan”.

While buying jewellery, you should consider the purity of gold in karats and BIS (Bureau of Indian Standards) hallmarking. There will be making charges for jewellery. Usually, people prefer to keep ornaments in a bank locker. So, you have to consider the availability of bank lockers and their charges.

  • Coins and biscuits

Gold coins and biscuits are usually bought for investment purposes. However, some people buy gold coins regularly to accumulate them for a financial goal like a daughter’s wedding. Before the wedding, the gold coins are then used for making ornaments.

You can buy gold coins and biscuits from banks or jewellers. However, you should note that a bank will not buy back gold. To sell it, you will have to approach a jeweller.

  • Gold ETFs

Gold jewellery and coins are ways of buying physical gold. But, physical gold involves making charges, purity question marks, storage costs, etc. To overcome these challenges, you can purchase gold in electronic form for investment purposes. One way of doing that is Gold Exchange Traded Funds (Gold ETFs). Mutual funds offer these.

You can buy them either:

  1. Directly from the AMC during the NFO, or
  2. Post listing, from another investor, through the stock exchange like NSE

The Gold ETF scheme invests the money raised from investors in physical gold. One unit of a Gold ETF is usually one gram. Hence, the pricing of 1 unit is generally equivalent to 1 gram of gold. The minimum trading (buying/selling) quantity for Gold ETFs is 1 unit. You compulsorily need a Demat account for Gold ETFs. Units bought will be credited to your Demat account, and units sold will be debited from your Demat account.

For a long term financial goal like accumulating gold for your daughter’s marriage, you can buy small quantities of Gold ETFs regularly, say every month. Then, before the wedding, you can sell the Gold ETF units. The sale proceeds will be credited to your bank account. You can then purchase gold jewellery with the same proceeds.

  • Gold FoFs

You cannot do a SIP with Gold ETFs. You also compulsorily need a Demat account for Gold ETFs. To overcome these challenges, you can invest in a Gold Fund of Funds (FoFs). Mutual funds offer these. A Gold FoF invests in the units of a Gold ETF managed by the same AMC.

You can buy Gold FoF units from the AMC at the time of NFO or anytime later. You can also start a systematic investment plan (SIP) for regular monthly investment. First, you will be allotted Gold FoF units proportionate to the amount invested. Then, you can redeem the units with the AMC, and the equivalent amount will be credited to your bank account.

  • Digital Gold

Like Gold ETFs and Gold FoFs, digital gold is another way of buying gold in electronic format. You can purchase digital gold with a minimum amount of as low as Re. 1 from any of the following 3 companies or their partners:

  1. MMTC-PAMP India Private Limited has partnered with partners like Google Pay, Paytm, PhonePe, Fisdom, HDFC Securities, Motilal Oswal, Aditya Birla Capital, etc.
  2. Augmont Gold has partnered with partners like Bajaj Finserv, Groww, Kuvera, Upstox, Muthoot, Razorpay, Wishfin, etc.
  3. Digital Gold India Private Limited has partnered with partners like Amazon Pay, Freecharge, 5 Paisa, Caratlane, Candere, Prabhudas Lilladher.

When you buy digital gold with any of the above companies, they buy physical gold on your behalf and store it in a safe location. You can view the details of your purchases in your online account. You can sell your digital gold whenever you wish to. The selling price will be displayed, and the amount will be in your bank account in 2-3 working days.

  • Sovereign Gold Bonds (SGBs)

The Sovereign Gold Bond (SGB) is an electronic gold product offered by the Reserve Bank of India on behalf of the Government of India. A significant difference between SGBs and other forms of electronic gold is that SGBs offer a 2.5% interest p.a. and have the highest safety guaranteed by the Government.

The RBI announces dates on which the application can be made for SGBs. An individual can apply for SGBs through the stock exchanges (NSE or BSE), banks, post offices, etc. The minimum application is 1 gram of gold.

The tenure of the bond is 8 years. However, once the subscription issue closes, the bonds are listed on the stock exchanges. Therefore, an individual can sell the bonds anytime through the stock exchange. The individual also can make a premature redemption with the RBI after 5 years or maturity redemption after the 8-year tenure.

The annual interest of 2.5% is credited semi-annually to the bondholder’s bank account directly.

Taxation of Gold Investments

We have understood the various ways of buying gold. Let us now look at the taxation aspect of gold. The taxation of SGBs is different from all other forms of gold.

  • Taxation of SGBs: The interest earned on SGBs is added to an individual’s overall income and taxed as per his/her income tax slab. Tax Deduction at Source (TDS) is not applicable on interest.

If the bond is sold before 3 years, then short term capital gains (STCG) tax will be applicable. The STCG will be added to the individual’s overall income and taxed as per his/her income tax slab.

If the bond is sold after 3 years, then long term capital gains (LTCG) tax will be applicable. The LTCG tax will be 20% with indexation benefit.

Redemption with RBI: Although the tenure of the bond is 8 years, the individual has an option to do premature redemption with the RBI after completion of 5 years. If he/she chooses such a premature redemption option then the LTCG tax is exempt. After the 8-year tenure, on maturity, the individual can redeem the bond with the RBI. If the individual chooses such a maturity redemption option, then the LTCG tax is exempt.

  • Taxation of other forms of Gold: In the case of other forms of gold (jewellery, coins, Gold ETFs, Gold FoFs, Digital Gold), if it is sold before 3 years, then short term capital gains (STCG) tax will be applicable. The STCG will be added to the individual’s overall income and taxed as per his/her income tax slab. If the bond is sold after 3 years, then long term capital gains (LTCG) tax will be applicable. The LTCG tax will be 20% with indexation benefit.

Asset allocation: Gold Investment a part of everyone’s portfolio

We have understood why & how people buy gold. While planning for your financial goals, you should follow a proper asset allocation, based on which you should allocate a certain percentage of your portfolio to gold. You can partner with the Glide Invest App to plan and systematically invest towards your financial goals. You will get guidance for:

  1. A personalised risk profile assessment
  2. Identifying your financial goals
  3. Appropriate asset allocation
  4. Making a financial plan for each goal
  5. Automating the financial plan
  6. Review and analysis of your financial plan
  7. Hand holding you till your financial goals are achieved.

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