Personal Finance

Sovereign Gold Bonds: Shining in the secondary market

Dhuraivel Gunasekaran | Updated on March 10, 2018

Investors with medium-term horizon can buy sovereign gold bonds through this route

Sovereign gold bonds (SGBs) have been in focus in recent times, thanks to the RBI facilitating investments on tap. Beginning October 9, 2017, the RBI has been launching a new series of gold bonds every week. The last of this series opens today and closes on December 27, 2017.

However, don’t fret if you are on a holiday or you don’t have enough funds to invest right now. You can also consider the earlier series of sovereign gold bonds which are currently traded in the secondary markets. The nine series of SGBs issued in the last two years are now traded on both BSE and NSE.

Attractive option

In the secondary market, most of the series are available at lower prices — around ₹100 lower than the current spot price and the prices of the latest bonds even after adjusting for the ₹50 discount.

For instance, the closing price of the series ‘SGB 2.50% NOV 2024 Tranche-VI’ (issued in November 2016) in the NSE on December 22, 2017 was ₹2,751 and the closing price of the series ‘SGB 2.50% JUL 2025 Sr-II 2017-18’ (issued in July 2017) was ₹2,770. This implies around 2.5-5 per cent discount to the spot price of ₹2,885 on December 22, 2017 and the offer price of the gold bond open for subscription now (₹2,831). SGBs follow the closing price of gold (999 purity) published by the India Bullion and Jewellers Association (IBJA) as benchmark.

The difference in the prices of SGBs and spot prices seems to occur due to the absence of ample liquidity and also as compensation for holding the bond till maturity. Investors have to bear the broking cost while buying SGBs from the secondary markets that range 10-50 paise for every ₹100 (around ₹5-15 for per unit of bond). Demat account is mandatory to transact in the secondary markets.

Suits medium-term investors

The requirement to hold for a long tenure has possibly been a dissuading factor for investors to stay away from investing in SGB offerings. Sovereign gold bonds are issued with the tenure of eight years and the RBI provides buyback facility only from the end of the fifth year.

However, investors with medium-term time horizon can consider investing in the SGBs through secondary market. The added benefit is that you will be eligible to receive the accrued interest for the period you have not held. You can then exit through the buyback option provided by the RBI.

It is worth noting that the first buyback date in most of earlier issued bonds is just three years away from now. For instance, the first buyback date for the ‘SGB Tranche 1’ falls on November 20, 2020, which is just 2.9 years from now. Similarly, the first buyback dates of the other SGB Tranche 2, 3, 4, 5, 6, 7, 2018 Tranche 1, and 2018 Tranche 2 are away between 3.1 years and 4.6 years from now.

Please note that at the end of fifth, sixth and seventh years, the RBI will open a window at least 30 days prior to the coupon payment date to accept the buyback applications. The buyback price will be the previous week’s simple average of closing price of gold of 999 purity published by IBJA.

Hence, buying SGBs at a discount to the spot price from secondary markets and exiting in the prevailing spot rates during buyback seems to be an ideal investment strategy. However, you can also sell in the secondary market if you get good liquidity and better price. As per the current tax structure, selling SGBs post three years qualifies for long-term capital gain tax benefit which is levied at 20 per cent with indexation.

No short-term opportunities

Besides, comparison of the historical prices (NSE data) of the actively traded SGB series with the spot gold prices (IBJA data) shows the low correlation between the spot gold price and market prices of SGBs.

This means that any short-term appreciation or depreciation in the spot gold price were not much factored in the market prices of the sovereign gold bonds. Further, the payment of interest also has had little impact in the prices of the respective bond prices.

For instance, during the rally between December 2016 and February 2017, spot gold rose by 8 per cent while the prices of most SGBs rose only around 3 per cent. Similarly, during the correction in the last one month, spot gold fell by 3 per cent while most SGBs registered a loss of less than 1 per cent.

Considering the above fact, SGBs may not suit investors who intend trading in or holding for shorter time frame to capitalise on the short-term opportunities.

Liquidity limited, though

The liquidity is limited in SGBs in the secondary markets. However, volume is higher on NSE in some bonds such as SGB Tranche-4, SGB Tranche-6, SGB Tranche-5, SGB 2018 Tranche-2 and, SGB Tranche-7 which traded with the daily average volume of 271, 283, 122, 62 and 77 number of bonds in the last one month period, respectively.

A random analysis shows that the bid and ask spread to buy 10 units at one go in the above mentioned bonds on NSE was around ₹5-40. Investors who want to buy substantial units can stagger purchases based on the bid and ask spread.

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Published on December 23, 2017
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