Sandeep Singh
Posted online: Monday , October 08, 2007 at 1521 IST
In the universe of gold investing, two significant things happened last month. One, gold prices, the world over, hit levels last seen in 1980. Two, back home, DSP Merrill Lynch World Gold Fund, a recently-launched mutual fund that invests in shares of gold mining companies overseas, opened for repurchase. Its return between August 23, when its new fund offer (NFO) closed, and October 3: a stunning 28.8 per cent.
Investment outlookThe scheme has, of course, benefited from the upward trend in gold. Since September 3, the per ounce price of gold has increased by 10.4 per cent, from $672 to $742. The trigger for this latest surge came on September 18, when the US Federal Reserve cut interest rates. The dollar took another tumble, as lower interest rates made it less profitable to hold the US currency.
Investors started trimming their dollar assets and started stocking up on other currencies and assets, including gold, which is widely seen as an alternative for dollar. Says Abheek Barua, chief economist, HDFC Bank: “With the dollar depreciating, gold seems to be emerging as the asset of choice, and is expected to remain fairly strong.”
This is not a new story. The dollar has been in decline since mid-2001, as the financial excesses of the US started catching up with it. The US is nursing a massive current account deficit, due to which the dollar’s stock is falling. Central banks and institutions that once stocked up on dollars are now dumping it in favour of gold (See graphic: The reasons). Says Anup Maheshwari, head of equities and corporate strategy, DSP Merrill Lynch Fund Managers: “Generally, bull runs in commodities last 13-15 years. The current run has been on for seven years now. It hit a peak in 1980, of $800 per ounce. Adjusted for inflation, the equivalent value would be $1,600, which I expect in three years.”
Not everyone shares Maheshwari’s bullishness. Madan Sabnavis, chief economist, National Commodity and Derivatives Exchange Limited, is guarded. “The dollar can’t just keep on depreciating against the Euro, as it hurts European exporters. Europe cutting rates will lend some stability to the dollar.” Bhargava Vaidya, gold analyst, is on the other end. “Demand won’t be strong at this price. Moreover, Gold is its biggest enemy, as it never gets destroyed. It can be reused, which acts as a constraint on demand,” he says. Depending on whom you believe, the outlook ranges from bullish to mild. That hasn’t changed.
Investment optionsWhat has changed is the ways in which you can invest in gold. Barely 10 months ago, investing in gold meant buying jewellery, bars and coins, which entailed hassles like assessing it for purity and storing it safely. Since then, we have seen the mutual fund industry offer innovative products to invest in gold. On cost and convenience, they are the best way to invest in gold, much superior than traditional modes, especially if you are investing only a small sum.
Jewellery. The only reason to buy jewellery is if you plan to use it. The traditional form of investment suffers from many shortcomings. You have to be a judge of purity. Not only there’s no standard pricing, you pay the jeweller a premium at the time of purchase and see a small deduction at the time of sale. Then, there are making charges.
Lastly, the tax structure is the least friendly of all gold investing avenues. The threshold for capital gains tax is three years — less than three years is short term, more than three years is long term. By comparison, in financial instruments like gold ETFs, it is one year. On top of that, you have to pay wealth tax on gold held in physical form: 1 per cent of the incremental amount above Rs 15 lakh. So, if you have gold worth Rs 20 lakh, you will have to pay a wealth tax of Rs 5,000 (1 per cent of Rs 5 lakh). By comparison, gold funds are exempt from wealth tax.
Coins and bars. Increasingly, not just jewellers, banks have also started selling gold bars and coins. Coins, for instance, are available in varying sizes of 2 gm, 3 gm, 5 gm, 8 gm and 10 gm. While purity is not as much of an issue as it is with jewellers — banks assure purity — other limitations of jewellery remain. Storage is an issue, as is the punishing tax structure. Also, to ensure purity, banks charge a premium of 5-20 per cent, which is a fairly high cost to pay for an investment.
Gold ETFs. Gold ETFs get around all these limitations. They give you an exposure to gold without the headache of holding it. In February, Benchmark Mutual Fund launched a gold exchange-traded fund (ETF); subsequently, UTI and Kotak also launched gold ETFs.
The fund house holds the gold, and hence deals with the risk of storage and purity, and these cannot be passed on to you. What you hold are units in dematerialised form, as you do in a stock or mutual fund. The fund declares an NAV, based on which you buy and sell. Each ETF unit essentially represents one gram of gold, which you can buy and sell from the secondary market as and when required. Since the market price will be linked to the spot price of gold at all times, you have a near-mirror exposure to the asset.
A gold ETF is the most cost-efficient way of investing in gold. When you buy or sell, all you pay is the transaction cost (brokerage plus demat costs), which is usually 0.6-1 per cent. By comparison, a jeweller charges a mark-up of 5-7 per cent over the spot price, banks charge 10-20 per cent more.
DSP Merrill Lynch World Gold fund. The newest offering is also the most popular in the mutual funds space. Launched in August, DSP Merrill Lynch World Gold Fund has a corpus of Rs 600 crore — double that of the three ETFs combined. This is a feeder fund. It simply routes its corpus to a global Merrill Lynch fund called Merrill Lynch International Investment
Funds-World Gold Fund, which has invested in gold mining companies like Barrick Gold, Impala and Newcrest Mining. At all times, at least 90 per cent of the domestic fund’s corpus will be in its sister overseas fund.
Gold’s return to favour has given a big boost to the fund’s first returns. Says Maheshwari: “Gold equity has remain ignored for quite some time now, and companies have been trading at relatively low valuations. Generally when gold prices move up by X, gold equity moves up by 1.5X, though the reverse is equally true.”
That statement of Maheshwari neatly outlines the high risk, high reward proposition of this fund. An investment in this fund is influenced not just by the outlook on gold, but also by the outlook on the mining industry and company-specific factors. Says Vaidya: “The mining industry is a highly geared industry. Such an investment is only for those people who are willing to take the mining industry risk.” Unless you are prepared to that higher risk, stick to gold ETFs.http://www.expressmoney.in/news/SHINING-
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