Tackle low liquidity in sovereign gold bonds by laddering, say analysts

The Sovereign Gold Bond (SGB) Scheme 2021-22 Series X opened for subscription on Monday and will be available until March 4. For this tranche, the Reserve Bank of India has set the price at Rs 5,109 per gram of gold - Rs 323 higher than the Series IX issue. 

Geopolitics driving price
Gold is up 5.8 per cent over the past month and 8.9 per cent over the past year, with a large part of it coming in February, after escalation of tensions between Russia and Ukraine, as investors fled to this safe-haven asset. Naveen Mathur, director-commodities and currencies, Anand Rathi Share and Stock Brokers, says, “Russia put its nuclear deterrent on high alert on the fourth day of the biggest assault on a European state since World War II. The US and its allies moved to block a few Russian banks access to the SWIFT international payment system. This could disrupt Russian exports of commodities like oil, metals, and grain.”

High inflation, too, will support gold price. 

Hedge against uncertainty 
In the light of the ongoing geopolitical crisis between Russia and Ukraine, soaring crude oil prices, worldwide inflation, and volatility in global stock markets, SGBs are a good investment option. Lovaii Navlakhi, chairman, Association of Registered Investment Advisers, says, “We recommend gold since it can provide a hedge against uncertainty. Around 5 per cent of one’s networth should be allocated to it.”

SGB is a long-term (eight-year) instrument for investing in gold. Investors can only exit these bonds from the fifth year (on interest payout dates). “For those who like to hold gold for the long term without worrying about price movements, it provides the added advantage of interest payment of 2.5 per cent per annum,” says Navlakhi.

Also, when SGB is held until maturity, investors pay zero capital gains tax. Navlakhi adds that the decision to invest in SGBs should be based on the buyer’s current asset allocation (whether he is over- or under-allocated to it) and his liquidity requirements (whether he can invest for eight years).

Use laddering
Long-term investors can tackle the issue of low liquidity in SGBs by laddering. They can invest a small amount every time a new tranche opens for subscription. By buying at intervals, investors can ensure small amounts of these bonds mature at regular intervals. “The discipline of investing at fixed times will also help you average out your entry cost and will work as a form of systematic investment plan,” says Navlakhi.

Interest income is taxable
The interest income from SGBs is taxable. Deepak Jain, chief executive, TaxManager.in, a tax e-filing and compliance management portal, says, “The interest earned on SGBs is treated as income from other sources and taxed at the applicable slab rate.”

No tax deducted at source is deducted on interest. Capital gains from SGB is taxed if the investor exits earlier. Capital gains is treated as long term if the holding period is more than three years.

Long-term capital gains is taxed at 20 per cent with indexation benefit and at 10 per cent if indexation benefit is not opted for. Short-term capital gains is taxed at the slab rate. 

Liquid alternative
SGBs are listed instruments. In theory, one can sell them on the exchanges to exit. However, liquidity tends to be low, so investors may at times be forced to sell at a discount.

Those who may require liquidity should opt for gold exchange-traded funds (ETFs), which are more liquid.

Chirag Mehta, senior fund manager-alternative investments, Quantum Asset Management Company, says, “These regulated instruments are traded on exchanges at the prevailing market price of physical gold. They involve no making charges or premiums.”

Gold ETFs are backed by 24-carat physical gold and let investors invest with small amounts.