Gold vs Gold Bonds

Gold has, since time immemorial, been an attractive investment option. Individuals, certain mutual funds, and even central banks have a portion of their portfolio in terms of gold.

However, over the last decade, gold bonds have become increasingly popular for retail Indian investors. Not only do gold bonds offer exposure to gold and the rise in its prices, they also provide other benefits that make it a compelling investment opportunity.
 

What are Sovereign Gold Bonds?

SGBs, or Sovereign Gold Bonds, are offered by the Indian government as an alternative to buying physical gold as an investment. Introduced in October 2015, the sovereign gold bonds scheme was brought in expressly “as an alternative to purchasing metal gold”.
 

The bonds are issued by the Reserve Bank of India and sold through banks and designated post offices. They have a tenure of eight years and can be redeemed prematurely after the fifth year. The minimum possible investment in these bonds is one gram of gold with an individual permitted to purchase these bonds worth up to 4 kilograms of gold every financial year.
 

While the price of these bonds tracking market prices, buyers making the purchase through the online mode and paying digitally get a discount of Rs 50. For instance, the last time the bond was issued in 2024 was in February, when the issue price was Rs 6,263 per gram of gold. However, those making the purchase and payment online had to only pay Rs 6,213 per gram.
 

Finally, sovereign gold bonds also offer a fixed rate of interest of 2.50 per cent per year in addition to any increase in price of gold.
 

Why Government Favours Gold Bonds

For the government, having an instrument such as sovereign gold bonds is a necessity.
 

While announcing the scheme in his 2015-16 budget speech, the then finance minister, Arun Jaitley, had said: “India is one of the largest consumers of gold in the world and imports as much as 800-1,000 tonnes of gold each year. Though stocks of gold in India are estimated to be over 20,000 tonnes, mostly this gold is neither traded, nor monetised.”
 

India’s gold imports had jumped in the early part of the last decade due to high inflation, which forced households to invest their savings in the precious metal which is seen as a hedge against inflation. This led to higher gold imports, which in turn widened India’s trade and current account deficits. The deterioration of India’s trade balance added further pressure on India’s exchange rate, which was hitting new all-time lows almost every day in 2013.
 

With most macroeconomic indicators rather weak, the government and the Reserve Bank of India needed to take steps to improve the fundamentals of the country and restore investor confidence. Reducing import of gold, both by lowering inflation and the purchase of physical gold, was one of the ways in which the macroeconomic situation of the country was made better.
 

Benefits of Investing in Sovereign Gold Bonds

Some of the benefits of investing in sovereign gold bonds have already been mentioned: ease of purchase through online mode, a discount while paying online, and an additional annual rate of interest of 2.5 per cent over and above the price appreciation witnessed by gold.
 

However, the other benefits of investing sovereign gold bonds have to do with their form – or rather, their non-physical form. Because these bonds don’t involve actually owning physical gold, one does not have to worry about their theft. As such, there is no risk or cost associated with its storage.
 

Further, there are no making charges involved and purity is not a concern.
 

Advantage of Buying Physical Gold

Given all its benefits, it looks like a straightforward decision between buying sovereign gold bonds and physical gold. However, it is not so straightforward.
 

One of the most important considerations while making an investment is how easily one can exit it. After all, the point of an investment is not to hold it forever but use the money when necessary.
 

Here, physical gold scores over sovereign gold bonds as it is a more ‘liquid’ investment. Physical gold can be sold fairly easily wither at jewellery shops or at a bank. Sovereign gold bonds, on the other hand, can be redeemed prematurely only after five years. And while they can be traded on stock exchanges a fortnight after their issuance if held in demat form, it might not be so easy to sell them. In fact, as on May 29, 2024, the total value of sovereign gold bonds available to trade on the NSE is just Rs 7.8 crore! As such, it could be rather difficult to find a buyer for your sovereign gold bond on the exchanges.
 

Sovereign Gold bonds vs Physical Gold – the tax angle

One final plus point in the favour of sovereign gold bonds is the tax treatment.
 

While the interest earned on these bonds is taxable as per the Income-tax Act of 1961, individuals do not have to pay tax on their capital gains if they hold the bonds for the full eight years until they are redeemed. In case the bond is sold on the exchanges, the buyer will get indexation benefits.
 

Choosing Between Gold Bonds and Physical Gold

The final decision on whether to buy physical gold or sovereign gold bonds must be made by the person in question. If a person is confident that they do not need the invested money for eight years, then the sovereign gold bonds are a great pick. However, for some investors, liquidity is an extremely important factor. As such, physical gold could be the better pick.