5 Sep 2020

Which is better — gold mutual fund or digital gold?

Until I read this piece on Kurva Blog, I was only mildly interested in gold. After reading that, I thought I’d invest in gold because it acts as a hedge against INR currency depreciation and inflation to some extent. I thought digital gold was the way to go because they are better than gold ETFs or gold mutual funds in these ways:

  • no recurring expense though you pay 3% GST at the time of purchase, and
  • the Kuvera blog post said digital gold tracks gold price more closely than other gold instruments.
I started a digital gold SIP and started buying gold every month. Only a few months later I realised that digital gold is a space that is not regulated by the government. This was concerning. From some online sources I found out that digital gold providers have set up regulatory processes by hiring third-party auditors, etc. That’s better than nothing, but that is still voluntary. If a vendor finds some process too inconvenient, they can decide to not do it; no one can question them.
•••
Quantum is an AMC that I am starting to like more and more for their conservative and responsible approach to handling investor’s money. Quantum has a gold mutual fund. They conducted an online session where they outlined the process they have for acquiring and storing the gold that their investors buy. I watched that live and from then on, I decided that I’d rather invest in gold through Quantum than anyone else. First of all, the mutual fund industry is regulated by SEBI, which is far better than self regulation. The next reason is very subjective: I happen to like and trust Quantum more than many other AMCs.
Thus, I switched my allegiance from Kuvera provided digital gold to Quantum gold mutual fund. I knew I was losing some money because the fund’s expense ratio pays for insurance, storage, AMC’s regular inspection and auditing, etc. But I convinced myself that the peace of mind I get is worth the money.
•••
Just today, I came across another reason that validates my decision to move away from digital gold. It’s an article on LiveMint, and it says:
Generally, these digital gold products have a maximum holding period after which the investor has to take delivery of gold or sell it back. For example, MMTC-PAMP investors will have to mandatorily take delivery or sell the gold purchased, unlike gold ETFs where there is no such limitation. After five years, the investor will have to pay extra charges decided by MMTC-PAMP, if the delivery is not taken. One can hold Gold ETF for as long as one wants to.
If you want to hold on to your gold for longer, you need to sell and repurchase the same gold at the 5 year mark. It sounds like a simple annoyance, but if you think a little bit more, you’d realise it’s more than an annoyance:
  • If you’re selling and repurchasing, you will be paying the 3% GST again. The narrative that digital gold has an one-time overhead (GST) vs mutual funds having a recurring overhead (expense ratio) breaks down here. (The magnitude of the recurring cost can still be different.)
  • Add to that the spread that exists between the selling price and buying price. Let’s say you need to sell 3 grams of gold because you have held them for the maximum holding period. Thanks to the bid-ask spread, the money you got from the purchase will get you less than 3 grams of gold. This is even before accounting for the 3% GST.
  • Selling gold is a tax event. You need to determine whether it’s a capital gain or loss and include that in your tax returns. If there was capital appreciation, you’re also looking at a tax bill in addition to the aforementioned expenses.
This only strengthens my belief that picking the right investment instrument is really hard, but not for the lack of information. You can find any information you need on the web. Most vendors will also be happy to answer your questions if you just call them. But your needs and preferences are unique. Speak to knowledgeable people you know or a financial advisor, and find out what works best for your own unique needs.
PS: If you’re still not sure whether to invest in gold (more precisely, to have an allocation for gold in your portfolio) I would highly recommend reading Kuveras excellent advice on this. Gold has historically given less return than equity. If you have an allocation for gold, you should be prepared to sell some equity and put that money in gold. You should be willing to go through that unpleasant exercise.

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