Buy gold ETF with low tracking error and expense ratio, high liquidity

Bulk of gold investment for investment purpose should be through ETFs; limit jewellery purchase to personal use

A large number of people will purchase gold on Dhanteras. While it is all right to buy a token amount of physical gold on this day, the bulk of one’s exposure to gold for investment purposes should be through gold exchange-traded funds (ETFs) or fund-of-funds (FoFs). 

Low-cost and convenient  Gold ETFs offer a simple, transparent, low-cost, convenient, and liquid way to invest in gold. “They closely track gold prices, can be traded like stocks, and allow for small investment amounts, making them accessible to all investors,” says Alekh Yadav, head of investment products, Sanctum Wealth. 

Gold ETFs are useful for diversifying the portfolio. “For investors seeking safety during economic or geopolitical stress, they serve as an efficient stabiliser in a diversified portfolio. They also offer protection against inflation and currency weakness,” says Chintan Haria, principal – investment strategy, ICICI Prudential Asset Management Company (AMC). 

Sandeep Parwal, founder, SPA Capital, says they provide safety through digital storage. 

Gold ETF versus jewellery 

Gold has two purposes: it serves as a store of value and is used as jewellery. Experts recommend using gold ETFs for investment and buying jewellery for personal use.

 

“Gold ETFs offer superior value as an investment by eliminating the high, non-refundable costs of jewellery, such as making charges and wastage, while guaranteeing instant liquidity on the exchange,” says Ranjit Jha, managing director and chief executive officer, Rurash Financials.

 

ETFs offer price transparency. “They remove concerns around storage, purity, or theft,” says Haria.

 

Gold ETFs also come with professional custodial storage and are regulated financial instruments.

 

“In jewellery, the owner faces a price cut on resale. Besides, there are hassles related to storage and insurance,” says Harsh Vira, chief financial planner and founder, FinPro Wealth.

 

To raise money, one needs to sell or pledge jewellery. Selling ETFs is easier.

 

“Investors often attach emotional value to jewellery or physical gold, which makes it harder to sell them when needed. Gold ETFs carry no such emotional attachment,” says Yadav.

 

Physical gold attracts GST in India, whereas gold ETFs do not.

 

Demat required, pay annual fee 

Buyers need a demat account to invest in gold ETFs. “Gold ETFs involve annual management fees and may have slight tracking errors,” says Yadav. (Tracking error here refers to the difference between the ETF’s actual returns and the returns of the asset it aims to replicate.)

 

Vira points out that possible bid-ask spreads in thinly traded ETFs can raise transaction costs. Investors also have to pay a brokerage fee.

 

Gold ETFs or FoFs? 

Both gold ETFs and gold FoFs provide convenient exposure to gold compared to physical gold. “Gold ETFs are traded on stock exchanges, while investment in gold funds is done through mutual funds,” says Parwal.

 

Gold ETFs have lower costs and can be traded in real time on stock exchanges. FoFs can only be bought or sold at end-of-day net asset value (NAV). Gold ETFs may face liquidity issues, whereas investors are always assured of liquidity from the fund house in gold FoFs.

 

Gold ETFs have lower expense ratios. Gold FoFs come with a double layer of expenses — the expense ratio of the ETF and the FoF.

 

“ETFs suit investors who have a demat account and seek lower costs and real-time trading. FoFs are ideal for those who prefer hassle-free systematic investment plans and don’t have a demat account,” says Jha.

 

How to select a gold ETF 

Gold ETFs should be selected based on the following criteria: minimal tracking error, low expense ratio, and high liquidity. Investors should prefer ETFs with high assets under management belonging to a reputable AMC.

 

Do’s and don’ts 

Avoid treating gold ETFs as trading instruments. “Allocating 5–10 per cent of one’s portfolio and staying disciplined through market cycles helps in having a positive investment experience,” says Haria.

 

Instead of trying to time the market, invest systematically. Finally, Vira suggests investors use limit orders to control execution costs. 

  The writer is a Mumbai-based independent journalist