The cabinet gave its approval for introduction of the Sovereign Gold Bonds Scheme, as announced in the Union Budget 2015-16.
The idea the government probably had in mind is to lure away investors from buying coins and gold bars.
It is estimated that the consumption or demand as the case maybe every year for gold coins and bars is a staggering 375 tonnes.
Now, the problem with this kind of consumption of the precious metal is two-fold: one is that it leads to dollar outflow and puts pressure on the current account deficit.
The second problem is that gold is generally considered as a non-productive asset, which is why unlike other financial assets, there is very little productive use.
Let's give you an example. When you invest in say a bank fixed deposit, instead of gold it helps the bank to lend the money and create more development for the country. It does not happen with gold that way, which is why it is considered an unproductive asset.
Details of The Sovereign Gold Bond
While the finer details are yet to be announced there are reports that the interest rates on the bonds could be as low as 1-2 per cent. The bonds would track gold prices, which means you would be allowed to redeem the same at the prevailing gold prices. What this means is when you buy the bonds, if the gold price was Rs 27,000 and now it is Rs 28,000, you would get the current price of Rs 28,000.
So, what you get is a marginal interest rate and an appreciation in the gold price. Now, what's also important to remember, is that if gold price falls, you would lose money. So, overall since it is linked to gold prices, the chances of risk are high, just like gold bars and coins.
The one advantage though is that these bonds are safe unlike gold coins and bars which can easily be stolen. Another advantage is that you do not have to incur locker rentals.
Should You Buy The Sovereign Gold Bonds?
While the details of the scheme are yet to be announced what investors do know is that the interest rate would be low and they would track gold prices. So investing in the scheme would depend on how you predict gold prices.
In the next one year, it is difficult to see gold prices rising. This is because there is a possibility that the US Federal Reserve would hike interest rates by June this year. This would push investors away from gold and into safe government securities in the US as interest rates rise.
In the last two years gold has gone nowhere. The prices have been languishing after rallying from 2008 until 2013 following the Lehmann Brothers crisis.
At the moment if you want appreciation you should predict the movement of gold. Things look very bleak for gold at the moment and hence appreciation through the gold bonds may be difficult to come by.
From the nation's point of view it would help the country save valuable foreign exchange.