The price of gold moves in the opposite direction when compared to equities and it is an advised investment to hedge against the market risk but only with a marginal part of the overall portfolio.
Gold has been a symbol of wealth from ancient times to the current information age. It is more often seen as a tool used to hedge against inflation. It has been ages now since gold has served as one of the most effective tools to protect your money against any uncertainties. Historically, the price of gold moves in the opposite direction when compared to equities and it is an advised investment to hedge against the market risk but only with a marginal part of the overall portfolio.
This happens because gold only sees dramatic price changes during uncertain times and is otherwise a slow-moving instrument, typically more suitable for a risk-averse investor who wants to beat inflation with slightly better returns than fixed-income security.
There are different ways to invest in this precious metal such as investing through buying physical gold, Gold ETFs, Gold mutual funds, and sovereign gold bonds. Investing in physical gold is best suited for ornamental applications and also possess handsome storage cost as well. Gold ETFs and Gold Mutual Funds are quite similar but still have some differences. Investment through sovereign gold bonds come with a restricted investment horizon of 8 years which keeps it out of comparison from the former two options. This leaves us with Gold ETFs and Gold Mutual Funds as a comparable investment option to find out which one is better and why.
Gold ETFs are passive investment instruments that aim to track the domestic gold price. One Gold ETF unit is equal to 1 gram of gold and is backed by physical gold of very high purity (99.5 percent). Gold ETFs either invest in physical gold or stocks of companies engaged in gold mining/refining. Gold mutual fund on the other hand works on fund of fund structure that primarily invest in Gold ETFs as an underline asset. Thus, a portfolio of that ETF becomes an underlying asset for the scheme.
Investment in Gold ETFs can be made only in a dematerialized form which makes it mandatory to have a Demat account. While investment in a Gold Mutual Fund can be made even without a Demat account, being a mutual fund scheme it offers a minimum amount as low as Rs 500 or prescribed in the scheme.
Just like any other mutual fund scheme, gold funds also offer options of investing through a systematic investment plan (SIP) route which can help an investor to get the benefit of rupee cost averaging by investing a predefined amount at predefined regular intervals. This route of investment is missing in the case of Gold ETFs but investors from a long-term perspective can invest a smaller amount gradually at their convenience whenever the price is low to lower down their cost of investment.
Gold ETFs happen to be a cost-effective route of investment as they carry very lesser amount of cost in terms of expense ratio. Other cost includes can be brokerage and Demat account charges.
Being traded at the exchange Gold ETFs offer the flexibility of buying and selling at the current price on the exchange. The redemption amount that you will get would be the price on exchange multiplied by units you put up for sale. In the case of a gold fund, on placing a redemption request you will get the amount based on the closing NAV on the day when the redemption request is placed and that too within the prescribed time.
After discussing all the major differences between the gold mutual fund and gold ETFs, if you are looking for making a regular investment than going for a one-shot investment, then a gold fund is a better and rewarding option with an extra cost attached to it. If you are looking forward to cost-effective option to invest in precious metal, then gold ETF is considered to be the right choice.
(By Palka Chopra, Senior Vice President, Master Capital Services)