Why SGBs are burning bright and if it's a good time to invest in them

Sovereign gold bonds (SGBs) are shining brighter than ever. Not just because they are the safest mode of gold investment, provide tax-free returns on maturity and offer 2.5 per cent annual interest over and above the gold price. These features were already there. But because, despite the government's decision to reduce long-term tax on other gold investments, SGBs still remain the most tax-efficient option. What's more, the government's move to decrease import duty on gold from 15 per cent to 6 per cent should have dulled SGBs' shine, but it hasn't. It has only fuelled investor demand.

The spike in demand is reflected in SGB prices. As of September 2, 2024, the 63 SGBs listed on the stock exchange are all trading above gold's market value of Rs 7,144 per gram. The premiums range from 1.48 per cent to 12.96 per cent, with gold bonds maturing at a later period being more expensive. For example, gold bonds maturing in over five years have a 9.4 per cent premium, while those maturing in three years average a 3.5 per cent mark-up.

Government rethink on SGBs?

The government's delay in launching new SGB tranches may be contributing to the SGB frenzy. The last batch of SGBs was rolled out way back in February.

There are also media reports suggesting that these gold bonds may become a thing of the past. Blame it on ballooning government costs if that happens.

Apparently, the government originally viewed SGBs as a cost-effective means to raise capital. The rationale was based on gold's historical long-term returns of 7-8 per cent, which seemed a reasonable borrowing cost at the time. However, recent global economic events have been driving gold prices higher. This surge has unexpectedly increased the government's borrowing costs, as evidenced by the first tranche of SGBs maturing in November 2023 handing out a 12.73 per cent return. Given this higher-than-anticipated cost, the government allegedly has second thoughts about issuing gold bonds, at least in the near future.

Our take

Historically, many SGBs were available at a discount on the secondary market. It was a prudent strategy for investors to invest in them through the stock exchange.

However, in the current scenario, it may be wise to stay off the SGB bandwagon. Buying them at a higher cost will ultimately reduce your future returns.

Last but not least, Value Research is not a great fan of gold investments, as they usually generate single-digit returns in the long run.

Also read: Frequently asked questions on sovereign gold bonds