A Spot Gold Exchange on the cards

Recently, SEBI has made a proposal that will allow you to trade gold just like shares! But why, how, and what’s it all about? Well, read on to discover.

The market regulator has proposed a framework for setting up a delivery-based spot Gold Exchange. And you’ll soon realize why it’s like the SEBI saying, “I’ll make you an offer you can’t refuse!”

Indians love gold. Or so to say, we’re obsessed with gold! Actually, it’s more like an affair, an emotional connection. Whether it’s a baby’s namakarana or a typical wedding, the yellow metal never misses a spot. No wonder, Indian women possess over 11% of the world’s gold! Besides, it’s considered a ‘safe haven’. Which kind of explains why gold is always worth something.

Although we Indians have our ways of investing in the yellow metal, the said proposal could (trust us) revolutionize the way we buy and trade gold!

So, while the news media will mostly cover the ‘what’ part, we’ll help you make sense of why the proposal was necessary in the first place. Well, here’s why.

Why does India need a Spot Gold Exchange?

Any rational mind would question - “When we have so many avenues to invest/trade in gold, like mutual funds, SGBs, ETFs, digital gold and MCX gold futures contracts, why do we need this new platform at all?” Well, here’s your answer.

Basically, we’re talking of physical gold here. Mutual funds and SGBs don’t allow conversion to physical metal. ETFs have floor limits and digital gold has regulatory uncertainty. So, all of these options are ruled out. Gold futures contracts do allow you to hedge your risks or to pocket speculative gains. But you can take delivery only on its expiry. And the technicalities involved, make it a tad bit complicated for a layman. 

So, the only avenue you’re left out with is to buy gold over-the-counter from your ‘trusted’ jewelry shop. But by doing so, you run the risk of getting played in terms of purity of gold, jewelry making-charges, and the price. There have also been instances where buyers were fooled with fake bills of transactions. All in all, there is this issue of lack of transparency.

That’s where a Gold Exchange comes into the picture. Deposit gold, get receipts (akin to shares), trade receipts in the exchange, and whenever you wish, sell them & take home the purity-assured gold. As the price is determined by demand and supply in the exchange, there is better price discovery. Also, as it’s under the scanner of the SEBI, the transparency bit is pretty much sorted.

You see, India is home to many deep pockets who’ve stuffed gold jewelry in their lockers that lie idle all year round. On the flip side, there are people who desperately want to purchase gold. To meet the latter’s demands, we import a lot of yellow metal, which costs us exorbitant amounts of money. In 2019, for instance, our gold import bill stood at a whopping Rs 2.3 Lakh Crores!

Now, what if we had a mechanism as enticing as stock markets where the big guys could deposit their excess hoarded gold, which could be recycled (by trading) and channeled to the ones who actually need it? Can you imagine how much we could cut our gold import bill with such a platform in place? No, you can’t!

Besides, India is the world’s second-largest consumer of gold. Despite this, we have been price-takers for a long time and don’t have much of a say in the setting of gold price. We take clues from international market prices to decide our own.

But where do you think those prices come from?

International gold trading. There's a large group of people buying and selling gold on some international forums, ultimately helping others discover the true price.

So, if you were to extend this logic and establish a ready domestic market for trading gold, you can probably get a better price estimate for gold, isn’t it? And gradually, you become so successful that maybe other nations look at you for setting their own prices and then, boom, you are a price-setter! (hopefully so)

For a perspective, let’s compare the second largest and largest gold consumer in the world, i.e., India and China. While India’s gold demand is about 900 tonnes per year, China’s gold demand is just marginally higher at about 1000 tonnes per year.

But the thing is, China has Shanghai spot gold exchange and -

Just imagine what a sheer difference such an exchange can bring to India’s gold market!

An exchange platform will provide a ready market for all those who want to buy/sell gold. It will encourage retail participation in gold trading, which will enhance incomes and bring in revenues for the government. It will also boost foreign investments in gold, and stimulate more indirect investment avenues like gold mutual funds and ETFs.

The best part is that an exchange platform will pave the way for a centralized market and a single country-wide gold price. Additionally, it will promote our domestic good delivery standard, which will boost Indian gold refineries, which, in turn, will create wealth and jobs for the economy. So, now you know why we desperately need a gold exchange!

A win-win proposition for both the citizens and the economy, isn’t it?

How will the Spot Gold Exchange work?

Under the proposal, people can deposit their gold in a vault for which they’ll receive Electronic Gold Receipts (EGRs) from Vault Managers, who shall be registered as SEBI intermediaries. (consider this as an IPO)

You can think of these EGRs as a replica of shares. Just like shares, EGRs will subsequently be traded in the said exchange. If you want to buy EGRs, pay the beneficial owner in cash and get those into your Demat account. And not just jewelers, but retail investors, banks, FIIs, etc can also participate in the trading.

EGRs worth 1kg, 100gm and 50gm of gold will be issued and traded in the beginning, to avoid the logistic headache of transporting a minuscule quantity of the metal. However, under certain situations, smaller quantities may be allowed.

Moreover, if the EGR-holder wants to take home the gold underlying in it, he can surrender the EGR and obtain physical delivery of gold in the next trading day itself. Also, you can take the delivery of gold with any EGR (no fixed bar reference to gold) and in any city. This makes the trading sensible and helps participants cut down the trouble involved in fetching gold from a different city.

While the clearing corporation will be responsible for the settlement of transactions, the vault manager will ensure that every EGR is backed by real gold. The vault managers will also take care of the storage and delivery of your gold, but the owner shall be liable to bear those charges.

And apparently, these charges will be higher than that of the bank's gold lockers. As you stand to gain a lot more, it’s only natural that you pay higher charges here. Besides, the trading of EGRs shall be subject to Securities Transaction Tax (STT) and the delivery of gold will attract GST (preferably, IGST).

The important question, however, is whether there should be an entirely different new exchange or should existing stock exchanges be allowed to deal in EGRs?

Setting up a new exchange certainly has many advantages, but it’s not a cakewalk after all. You’ll need thick investments. You’ll have to set up clearing corporations, depositories, and several other intermediaries. Fresh registration of exchange members will be required. Compliance costs will creep in. And it’ll take a lot of time, that’s another thing. 

Besides, does it make much economic sense to set up a dedicated platform for a single product only? The SEBI is of the opinion that perhaps it doesn’t. So probably, to begin with, existing stock exchanges may be allowed to deal in EGRs.

The Bottom Line

In October 2018, SEBI gave its nod to the concept of 'Universal Exchange’, under which exchanges were allowed to deal with both equity and commodities. And it seems, with this proposal, it has taken the Universal Exchange thing to an entirely new level.

Gold never loses its shine for India. Whatever new investment opportunities crop up, you can’t stop Indians from buying gold. Because it’s gold for God’s sake. It’s always worth something. And with a heart of gold, the SEBI seems to have struck just the right chord.

That being said, the proposal is still in its consultation phase, so we can’t say for sure whether it’ll work out or not. However, if it does, it'll be a 'golden' moment (both literally and figuratively) for India. It remains to be seen how events unfold.

But this we can say, a spot Gold Exchange can change the way Indians trade gold.

Anyway, what’s your take on it? Is this a productive move? Let us know in the comments below.