Gold as Investment

Monday November 6, 03:47 PM
Golden rules

By Sandeep Singh

It's that time of the year when demand for gold hits new highs. On Diwali, people buy gold for auspicious reasons and to gift. After that, and through the winter months, it's all about conspicuous consumption, as the wedding season takes flight. Gold-buying patterns of Indians might not have changed much 80 per cent of gold is still bought in jewellery form, mostly around this time but the buying options have increased.
24-carat gold
This year, for the first time, banks are advertising heavily to sell gold coins and bars of 24-carat, or 99.99 per cent purity the highest available. ICICI Bank, for example, is selling gold in round-shaped coins (2.5 gm, 5 gm and 8 gm), heart-shaped coins (2.5 gm) and rectangular bars (20 gm and 50 gm).
Banks are perceived as institutions of trust. That they are assuring purity and consistency in a precious metal where quality has always been an issue could be the clincher for many buyers. But such assurances come at a cost.
Banks charge a mark-up of up to 25 per cent over the prevailing market price of gold. For instance, on November 2, when 24-carat gold closed at Rs 9,148 per 10 gm on the NCDEX, ICICI was retailing a 5 gm, 24-carat coin for Rs 5,604. Extrapolating, a 10 gm coin will cost Rs 11,208. That's a premium of 22.5 per cent over the spot bullion price. Other banks also charge a similar premium, ranging from 13-23 per cent. Banks say the mark-up is meant to cover the various costs they incur on logistics, storage and insurance. By comparison, jewellers charge a mark-up of 5-7 per cent.
Bhargava VaidyaGold Analyst
Invest in gold only through exchange-traded funds. Their costs are the lowest and their launch is not far awayThe quantum of mark-up reflects the risk of being sold something less than 24-carat gold. Jewellers command less credibility than banks. Says an official of Union Bank of India: "All the gold that banks sell has got an assay certification and comes in tamper-proof packing. Most assurances from jewellers are not based on such certification, but on word-of-mouth."
You don't want a situation where you buy 24-carat gold today, but when you go to sell, you are told it is of lower purity. If a jeweller is trustworthy and you have a relationship going with him, it's safe to buy 24-carat gold from him, as you will get the ruling market price when you go to sell. However, if you are venturing into the unknown, you are better off buying from a bank and paying 13-23 per cent more than the market price.
Gold as an investment
Put another way, if you are buying gold for investment purposes and buy from a bank, you are down 23 per cent at the very outset. How good or bad is an investment if you incur a cost of 23 per cent to buy it? By comparison, the cost of buying shares is about 1.5 per cent of the transaction value, equity funds 2-25 per cent.
For you to recoup your investment, and profit from it, gold prices have to travel a longer distance. They have done so in the past, but not with any degree of consistency. On a 10-year holding period basis, beginning 1970, the maximum compounded annual return from gold was 24.4 per cent (1970-80). Investments made in gold in the 1970s have given shining returns, but investments completing 10 years in the past decade, even with the surge in prices in the past three years, have performed woefully, with the CAGR ranging from minus 0.2 per cent to 4 per cent (See chart: Dull and shine). It would get worse if you added 23 per cent transaction costs to it. Says Bhargava Vaidya, a gold analyst: "I wouldn't advise buying a gold coin for investment at such a high premium."
The numbers indicate that gold makes for an ordinary investment, especially if it is purchased in the physical form, where transaction costs eat into returns. Some relief is in store on the charges front, with the launch of gold ETFs (exchange-traded funds) any day now. Says Vaidya: "For small investors, gold ETFs are the way to invest, as their loading on the market price is only 0.5 per cent. And you don't have to worry about purity or safety issues."
Less than 24-carat gold
Purity issues linger with gold purchased through jewellers. Increasingly, though, the government, through the Bureau of Indian Standards (BIS), is institutionalising checks and balances that let you gauge the purity of the gold being sold to you.
Purity of gold symbolises the actual gold content. So, 24-carat is 99.99 per cent pure, 22-carat is only 91.66 per cent pure (22/24 x 100), and 18-carat is 75 per cent pure (18/24 x 100), and so on. Pure gold, or 24-carat gold, is only sold in the form of bars and coins, and is too malleable to be made into jewellery.
There is a standard way to check the purity of the gold sold to you the BIS's five-point hallmarking check. Every piece of jewellery that has been hallmarked by the BIS will have a small imprint. Says Aman Gupta of Delhi-based PP Jewellers: "While purchasing jewellery, one should buy only hallmarked jewellery, as it provides an assurance of purity." The BIS certification will have five things, namely:
• BIS logo• Fineness, as indicated by a number that corresponds to carat. For example, 22-carat is 91.66 per cent gold, and the imprint should show '916'. Similarly, 18-carat gold, which is 75 per cent pure, should show '750'.• Logo of the assaying and hallmarking centre • Year of hallmarking. It starts from 2000, which is denoted by 'A', 2001 by 'B', and so on• Jeweller's mark
Says A.K. Talwar, deputy director general (hallmarking), BIS: "You should buy only hallmarked jewellery. And when you buy, check the hallmark yourself through a magnifying glass." The BIS issues licences to jewellers, as well as hallmarks jewellery items on a select basis. At present, the BIS has issued licences to about 2,500 gold jewellers.
A jeweller can have a BIS licence, but the piece of jewellery he is selling might not have been hallmarked. So, always, look for the hallmark on the piece of jewellery. Says Talwar: "It is proposed to make hallmarking of gold jewellery mandatory from 1 January 2008. Once this happens, all gold sold will have to be hallmarked." If and when that happens, it will mark a big step. But till then, you have to be on your guard, and do your own checks and balances.

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