Partial redemption, savings on making charge key benefits of gold ETFs

Posted online: Tuesday, Jun 10, 2014 at 0000 hrs
If I invest in overseas stocks through mutual funds in India, do I still need to pay short-term capital gains tax on selling? what are the risks associated with these funds?

—Subir Bose

Global feeder funds are taxed just like debt funds. You will be subject to a marginal tax rate for short-term capital gains incurred if you sell these funds within a year. As far as the risks are concerned, these funds are exposed to the market risks of the geographies they invest in. For example, the performance of a global fund investing in the US would depend largely on the outlook for the US economy and the performance and valuations of the companies it invests in. Another risk you need to be cognisant of is exchange rate risk. These funds could underperform when the rupee is appreciating even if the portfolio is doing well.

In gold ETFs, do fund houses buy physical gold as the underlying asset? If yes, what is the advantage for the investor? one could just buy gold coins and put them in the locker. That will save fund house charges.

—Aman Sharma

There are three advantages. One, gold ETFs can be kept safely in your demat account. As an investor, you need not worry about its security. Two, there is no making charge (or premium) that a jeweller/bank will charge. This premium sometimes tends to be in the region of 3-5%, which adds to costs. The charges which you need to pay while buying an ETF are the commission (paid to the broker), and maintenance charges for the demat account, which tend to be much lower than this premium. Three, you can partly redeem your investments — so, if you buy 10 units of a gold ETF (instead of buying a 10-gm coin) and want to sell off five units (equivalent of 5 gm), you can do that easily in case of an ETF.

How do fund houses generate higher returns from debt funds? Aren’t the coupon rates the same, or even

higher, for retail investors?

—Pradeep Rao

There are 2-3 ways in which fund houses generate higher returns. One, they can buy paper that is cheap (or offers better yields) and sell paper that is expensive (or offers lower yields). This trading in paper can generate additional profits, which a retail client may not be able to earn. Fund houses sometimes tend to have access to paper like securitised debt or other structured paper, which can boost the yield. A lay investor does not normally have access to such paper. At fund houses, there are credit teams that analyse and help avoid defaults — one of the biggest risks of investing in debt.

For a horizon of five years, should I opt for a balanced fund or a pure equity fund? What are the chances of getting below-bank FD returns from a pure equity fund after five years?

—Prateek Gupta

While the fund you invest in will depend on your risk profile, investments in diversified equity funds and balanced funds for a longer time horizon (more than five years) generally helps. While past performance cannot predict the future accurately, the average five-year rolling return for the past 20-year period has been around 12%.

A good quality equity fund should be able to outperform that.

Now that Sebi has allowed cash payments of up to R50,000 for buying mutual funds, do I have to give a copy of my PAN every time I pay in cash to buy units?

—Subham Giri

Investing through cash payment requires an investor to be KYC-compliant. However, as long as the investment in financial instruments does not exceed R50,000 in a financial year, a PAN card may not be required as per the current rules.

Niranjan Risbood

The writer is director, fund research, Morningstar India

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