Gold Bond: An Investment Vehicle and alternative Instrument for Purchasing Gold
Fri, May 15, 2020 8:29 AM on Exclusive,
It is bitter truth that we have limited avenues for financial investment in Nepal in comparison to foreign countries. Investors can find only few options for financial investment in our country.
People with small amount of money cannot buy real estate. Investment in stock market has been an area but not everyone can risk investing due to lack of knowledge and time. Parking money at bank accounts does not generate enough return to combat inflation since the inflation rate is more than interest provided by banks.
Surely, Gold can be a better way of investment because at one period of time or another, Nepalese people find themselves in the need of Gold at times like their marriage of family members and also for other reasons like showing off social status and prestige.
Nepalese people have been traditionally engaged in investing in gold in form of jewelries since ancient time and this behavior of Nepalese people goes parallel with the suggestion given by Modern Financial Analysts and Portfolio Managers that one should hold at least 10% of their total asset portfolio in Gold.
The craving for Gold among people is often seen at times of marriage ceremonies. It is generally estimated that about (even more than) 50% of Marriage budget of families is spent in Gold which becomes definitely huge amount of money.
But fluctuation of Gold Price cannot be anticipated though, which makes it uphill task to manage fund for Gold during times of gold price rise. Saving small amount of money for long period of time to buy Gold does not make that much profitable sense because of high rise of Gold Price in comparison to rate of interest in saved amount. Hence, it has already been an outdated formula to save money now and buy gold later which is historically proven as a lost bet.
Let’s glance at the return aspect of that precious metal.
The rate of return in Gold for last 5 years approximates to 10.70% (in USD) annual rate of growth while that of saving is on average 5% (in NPR). This shows monetary value depreciation problem while saving money to buy gold. Here, the annual rate of return has not been adjusted for fluctuations in foreign currencies.
Fluctuations in Foreign exchange rate also affects Gold price. In long run, we have observed that Nepalese currency is being depreciated with US Dollars.
Thus, two sided effect: demand and supply in international commodity market in one hand has direct effect on its price; on the other hand, foreign exchange rate fluctuations between currencies also has impact on it.
We have experienced that appreciation of USD while depreciation of NPR pours cold water in dreams of people owning gold. Even people with proper plan and adequate money do not find it possible to buy anticipated enough quantity of Gold due to fluctuations in Foreign exchange rate at pre-planned gold purchasing time.
Buying Gold as jewelries/ornaments with small amount of money in negligible quantity such as one gram is neither profitable for people due to fees charged (jarti, Jayla etc) nor suitable to use again for other purposes without losses due to problems with purity. There is security cost for storing Gold. It is often kept in locker of banks which incurs locker charge. Can we eliminate the problem related to cost of storage, security and lack of purity by holding physical gold all at once? Never.
Though most of time people buy Gold jewelries thinking as investment in assets, but it rarely fulfills the said purpose because of socio-psychological factor. Emotional attachment for gold jewelries among most of gold users (married women/girl) is a sensitive issue. In our society, attachment is such extremely high that no one intends to sell Gold jewelries once bought until and unless most painful financial times.
Thus Gold once bought as jewelries won’t be converted into liquid asset, hence the investment of people is stuck there unless gold loan is processed. But the culture of utilizing gold to obtain loan is not that much in Nepal. People rather informally mortgage their ornaments locally paying high interest rate in case they require fund. Hence, liquidity problem exists in traditional gold investment.
A recent circular by NRB regarding accepting Gold as deposit by commercial banks does not address the problem of liquidifying gold held by people in form of jewelries since the circular does not allow banks to accept Gold jewelries which people generally have. Also, at least 25 gram of Gold is required to be deposited which general people cannot afford all at once. In addition to this, Gold bar is not sold to people in Nepal. These are practical reasons why current Gold deposit scheme will not bring intended benefit to people. Since the Gold should be deposited for at least 3 years without any clause of cancelling gold deposit contract before maturity in part of gold depositor, it does not provide sufficient motivation to general people for entering into Gold Deposit Contract.
Such issues or problems faced by people while buying Gold like shortage of fund and lack of accessibility to buy gold even in smaller quantity can be well addressed by concept of Gold Bond. The problem pertaining liquidity and holding cost of physical gold is eliminated by concept of Gold bond. Gold bond on one hand encourages people to save money by allowing them to buy gold even with little amount of money. On other hand, it can also be used as an instrument for investment and hedging by investors.
There is a practice of issuing gold bond in India. Gold Bond in India is issued by Reserve Bank of India, the central bank there and such instrument in India is named as Sovereign Gold Bond(SGB).
So What is gold bond?
Gold Bonds are securities (issued by government most of time) denominated in grams of gold. They are substitutes (paper assets) for holding physical gold. Investors have to pay the issue price in cash at the time of subscription at existing price of gold and the bonds will be redeemed in cash on maturity equal to monetary value of gold at prevailing price at time of maturity. Interest will be offered as coupon payments periodically on the initial amount of investment during subscription over the lifetime of bonds, just similar to other corporate debentures.
The Demand for Gold by households/people can be anticipated in advance regarding how much they need and time on which they require. The age at which children become eligible for marriage can be easily applied to identify and match time and quantity requirement of gold. People can match their gold requirement and then hold Gold bond. They can even buy small quantity of gold with limited amount of money and thus save money through gold bond.
In Nepal, it seems that introduction and issuance of Gold bond in Nepal needs also to be done for the following good reasons:
- Through gold bond, people can buy as less as 1 gram of gold at any time and can add more Gold portfolio by purchasing them in exchange/stock market at prevailing price
- High marketability: It can be bought and sold at exchange market for nominal brokerage commission. It is traded in stock/exchange market.
- It can be used as collateral to obtain loan form Bank and Financial Institutions.
- Income advantage: coupon interest is earned on holding Gold Bond similar to debentures.
The coupon rate of interest is calculated on the value of gold at time of its issuance.
- Advantage of capital appreciation: Historical observation shows Gold price increment in long run.
- Minimum cost: The gold bond is dematerlized and is stored digitally in Demat Account. Hence no chance of physical loss or theft. Locker Charges paid to bank for storing the valuable metal is thus saved. Unlike physical gold where one has to pay jarti and Jayla while buying jewelries, there is no any cost for subscribing gold bond. Thus, no initial cost of buying gold bond.
- On maturity, Gold bond is redeemed by paying monetary value equal to the price of Gold prevailing at the time of maturity. Suppose, you hold 10 grams of Gold Bond initially issued for NPR 8000 per gram for 5 years. You paid thus NPR 80000 for it at initial time. Suppose the price of Gold ranks NPR 13000 per gram after 5 years at maturity. You get NPR 130000 at the end of tenure of Gold Bond.
Risk Part: Loss will be incurred in case of fall in price of gold but it won’t reduce the quantity of gold people hold. However, in long run, it can be observed and felt that there is no fall in price of gold but only increment.
Thus, Gold bond can be used as a saving instrument by general people and also as a financial instrument by investors for investment and hedging purpose. In Nepal, NRB only issues Treasury Bill and bonds like Development bonds, National Saving bond, citizens saving bond etc. The issuance of Gold bond will surely channelize scattered amount of money among people in a new way towards capital formation. General people who don’t want to invest in share and real state can find a better way of investment. Buying gold will cater need of people in two ways: one, by fulfilling their household requirement of gold; another: helping them to save and invest money; thus capital formation.
Sanjay Gelal
Biratnagar, Nepal
He has an MBA degree in finance from Purbanchal University School of Management, Biratnagar
