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Concepts & Tutorials

Enter SoBoGoS: The Sovereign Gold Bond Scheme Explained In A Way That Won’t Put You To Sleep

sobogos post bannerYay! We have a new way to buy gold. The Sovereign Bonds Gold Scheme has arrived, and I will call it Sobogos.

First, if you are looking for unbiased versions, please read the draft here. What follows in this post has a lot of snark.

The Objective

Because people like you keep buying gold in bars and coins – a full 300 tons worth of it every year – India has to import the yellow metal and pay precious dollars for it. 300 tons is, let’s see, 1 ton is 1000 kg. Each kg of gold costs about Rs. 25-30 lakh rupees, which is 50,000 dollars. 1000 kg or one ton then is 50 million dollars. And 300 tons is a whopping $15 billion. That is a lot of money.

So to save that, you are going to be convinced to buy Gold Bonds instead. SO that saves you from having to actually buy gold coins or bars, and you will still benefit from the increase in price of gold. And so India won’t have to import that much gold and so on. And you get a nominal interest on the bonds. (Take that! Can gold pay you interest?)

I do not know how this works because the mentality of the person buying gold bars or coins is apparently like this: I want to buy a gold bar or coin. Oh great, you have a piece of paper that is somehow equivalent! I cannot believe my luck! Said nobody. Okay a few, like the people who bought:

  • Gold ETFs on the stock exchange (which had real gold backing it)
  • Gold mutual funds (which also had real gold backing it)
  • Gold Futures (which may not have anything backing it until you take delivery, which most don’t)
  • Jeweller’s “investment schemes” when you kept on paying for years and at the end can redeem your investment for gold at a pre-fixed price.

This then becomes the fifth thing you can do to buy gold but not actually buy gold.

But there’s one major difference: There is nothing backing it other than the government. That’s fairly good for me, but I have a a sneaky suspicion that a lot of these gold buyers have major trust issues with the government. And, to be fair, the government doesn’t trust them either.

But What Is It?

  • You pay rupees, you get a “Gold Bond” under Sobogos.
  • The bonds are issued and backed by the government, equivalent to how many grams of gold you wanted to purchase. Denominations of 5, 10, 50 and 100 grams of gold.
  • The rate of gold you pay is a function of a reference rate in USD converted to rupees on the RBI price on the day you buy.
  • You cannot buy more than 500 grams per person per year. (That’s about 12-15 lakh rupees at today’s prices).
  • The bonds will carry a rate of interest. Imagine, gold that pays you interest!
  • The bonds will be for 5 to 7 years.
  • At the end of the tenure, you will be able to visit a post office or bank and redeem the bonds, for the price of gold on the day you redeem (appropriately converted).
  • You can use the bonds as collateral for loans. This will be just like pawning gold with a bank.
  • Bonds will be tradeable on a stock or bond exchange.
  • KYC norms will apply, so above Rs. 50,000 you have to give a lot of proof. Less is probably fine with lesser proof, but it’s not clear whether they will accept cash, the lack of a bank account, id proof etc.
  • Capital Gains will be like gold itself – 3 years and above is long term capital gains with indexation, if you transfer the bond before maturity (say selling on a stock exchange). But they will introduce a feature that allows you ZERO tax if you hold to maturity, so it’s exactly like buying gold.
  • You only get rupees on redemption, not gold. But since it’s at the price of gold, you can go buy gold after the jeweller rips you off with making charges, wastage and general other you-are-a-sucker charges.
  • If the gold price has dropped, oh my goodness, then you can keep the gold bond for another three years or so.

The exact details are not out but that’s the superstructure.

Does It Help Or Hurt?

There are two parties here: You, and the government.

If you buy this bond, you have pluses and minuses:

  • Don’t have to actually buy gold, and then buy a locker to keep that gold, and then buy insurance policy to get that locker, and then do medical test to get that insurance policy, and thus find out you are borderline diabetic. Therefore it is also healthy.
  • You get interest on the gold. This interest is taxable, though.
  • No tax if you redeem bonds at maturity.
  • You get the price of gold when you buy, and the price of gold when you sell, for the same grammage you own.
  • You can set up nominees to transfer it plus there is safety linked to your identity.
  • But you now have gold that is technically “declared”. Take that as you will.

The government has them too:

  • They pay much lesser interest, theoretically. It’s likely to be the order of 1% to 2% a year. The savings of course (between this and a regular government bond of around 7.5% nowadays) will have to go to protect against gold price volatility. This is in the form of a  Gold Reserve Fund.
  • If people substitute gold with this bond, the current account deficit is smaller since lesser imports are needed. That helps in multiple ways – it controls the fall of the rupee, for one.
  • If the rupee depreciates a lot, that is effectively “interest” to pay since the rupee depreciation means the same dollar value of gold earns more rupees. Slowing down the rupee depreciation thus reduces the interest cost.
  • If Gold goes up a lot they have to make it up by ponying up the cash, and even that is “interest”.
  • If gold prices fall in 7 years, then the government profits by giving the losses to you, but think about it, the government made money and you’re a part owner of the government. Have you ever been a winner and a loser at the same time? Well, this is how you can start.

Indians are Losing Interest in Gold, Though

India used to the largest consumer of investment gold (bars and coins) in the world. By a very large margin. China’s started to break into the space big time. Gold prices have been falling because Indians have been losing interest. Here’s the latest gold statistics:

image

If the Chinese pick up their pace of buying gold, we might see the price of gold increase because of Chinese interest, but the drop in Indian interest is so huge that it is likely to take prices much lower.

But Will This Scheme Succeed? It’s So, er, Unattractive!

There is a saying: If you want it to look like a duck, make sure it quacks. Okay, that’s not a saying, I just made it up. But it’s true.

We have to learn from the movies. And from Arnab. Making stuff that even sounds like “SoBoGoS” or “Sovereign Bond Gold Scheme” is downright boring. You’ve lost people at “Sovereign”.

They should have had a nice catch phase for it. Like “Bharatiya Gold” Or “Humara Sona” or whatever. The bonds should have been in the shape of a gold bar – with the denominations written on it. Like this (my editing skills are terrible, but yeah)

image

With all the terms written at the back. That might have a chance. The current scheme is so boring anyone would fall asleep just reading about it and then go to a  jeweller and say ditch man, give me the real thing.

The 1-2% interest is of little use really. But they should spice it up.

There are other issues

If a company buys gold and gets an exemption for tax, it will still have to pay MAT of 20%. If MAT is extended to LLPs and individuals, this can be a real dealbreaker.

Any level of KYC means that the poorest will not get access. These are a good portion of people that buy gold because it’s so much easier to hide away wealth from prying eyes.

People buying coins and bars will have to trust the government. Many don’t buy it precisely because they won’t trust the government or banks or such.

Our Verdict: It’s Better Than an ETF

Having a tax protected interest paying structure where the gold is safe is WAY better than an ETF where they charge you 2% fees a year. So I expect most of that traffic to move to the government bond, though ETF interest has fallen.

There is little fiscal impact though they might save on cash flow for the time being. They could use that money for ads.

There could be a good CAD impact if its successful.

It will never be successful if it’s called SoBoGos. Seriously guys, you won an election with PR, please don’t behave all corporate and all. Find your inner Arnab!

This is basically a bet on Gold and the supreme trust in the Indian government. Both. If you believe gold will go up, or you’ll need to buy some at a later date, and you don’t think our government will become like Zimbabwe or Argentina, then this is the best instrument to buy gold. Period.

Disclosure: I have no interest in gold. I don’t wear it, eat it or own it other than some sentimental things that are worth way more than what the metal will ever sell for.

  • esotericBlue says:

    if paper could ever = gold, …. gold would have long lost it’s value.

  • Devanand says:

    Nice article Deepak. Govt can call it as BoGuS (Buyer of Gold, you Suffer..LoL). Instead of people investing in such schemes, I bet a SIP and a frequent addition to your SIP for 5 to 7 years (waiting even more is good) will fetch a good returns, in fact buy more gold than what they could do with this scheme. I hope you also agree to it.

  • rnadarsh says:

    Hilarious. Find your inner Arnab!
    Gold is now old !

  • dineshsidhpura says:

    Very well written

  • Mehul says:

    It seems govt should come out with such schemes more frequently to inspire Deepak to write post in his trademark style!

  • Ravi says:

    I would have liked it if they have issued just like Kisan Vikas Patra where no details are asked. Most of the users will happily buy with out the fear of government. People buy biscuits to hold black money in simple form.

  • Hector says:

    Someone was in a really good mood when he wrote this…

  • kuriakose.bekxy says:

    Too good! at your humorous vituperative best Deepak….made me laugh today 🙂 🙂

  • D.Rama says:

    Even I don’t like to buy gold, hate it in fact. It just locks up your cash for god knows how long (if at all it can be freed).
    HOWEVER, I also hate paying my life insurance premium, its simply an expense, money thrown away! I could really use that cash if I could somehow skip that payment, maybe buy the latest iPhone (its so cool, na!)
    I also hate paying insurance for my Car, but have to since its now enforced by the law! An enforced payment like a tax, but not actually a tax!
    Lastly, I hate carrying an umbrella, but what to do, if rains catch you unawares (like today in Mumbai), I can get drenched!

  • Narayan Khatri says:

    Don’t have to actually buy gold, and then buy a locker to keep that gold, and then buy insurance policy to get that locker, and then do medical test to get that insurance policy, and thus find out you are borderline diabetic. Therefore it is also healthy. ha ha ha…Well said…

  • Chirag says:

    Nice article.
    Few issues:
    GoI is exposed to the spot price of gold when the bonds mature. So quite susceptible to manipulation. Typically the closing price should have been an averaging method of last 30 days.
    Unless GoI has a devised a hedge mechanism they are short gold on one side. So hmmm do we want our sovereign balance sheet to be used for running a quanto-bullion risk? If so we are just postponing the problem.
    Also the purchase of SoGoBos should have had a had a physical settlement mechanism i.e. investor walks in with their gold and gets a certificate in return.
    Lastly, I suspect most of the gold demand is from unaccounted sources. that remains excluded from the scheme. They should have introduced bearer bonds (actual paper). Where the only party that gets disclosed are the initial investor and the party at redemption. But this wrong for obvious reasons :).

  • arvind says:

    Sir , how is it in comparison with GDS of SBI where minimum was 500 gmidf correct , interest and principal total tax exempt after three years. please advice yr opinion. Regards

  • Ashwin Iddya says:

    If the scheme is made too attractive by offering a high interest rate, then everybody will run to the jeweller to buy more Gold coins &bars, and deposit it with the banks. Sort of counter-intuitive.

  • Krish says:

    Very nice write up. However not much is touched about current holders of physical gold and how this scheme would be applicable to them. What this scheme means to stock/derivative investors or NRIs,
    Don’t buy jewelry company stocks (They may have lower sales going forward)
    Short Gold (imagine 17 billion USD buying by Indians each year might be stopped from mines of South Africa) and buy it at much lower prices later.
    If you are planning to buy, physical gold, wait for one or couple of years. One may expect price range of 20K (assuming that China demand might not shoot up much)
    NRIs, INR may significantly appreciate against USD in 1-2 yrs provided crude price remains this weak. Funds in FCNR account in USD or any other currency be converted to INR.

  • Anand says:

    Lovely article. Except the unncessary mention of Arnab. That was like a cockroach in the delicious “payasa”..
    I won’t touch gold with a bargepole unless it is given free to me…. (hint to parents/parents-in-law).