Provision to Invest in Gold Deposit Schemes Introduces Credit Risk to Such
Funds
By Sachin P. Mampatta
Business Standard, New Delhi
Tuesday, June 17, 2014
http://www.business-standard.com/article/mark...tf-has-chang...
MUMBAI -- Gold exchange traded funds (ETFs) have a new element of risk.
These schemes, which earlier held physical gold equivalent to the unit
holders' investments, now lend a portion of these as part of a government
move to meet gold demand through domestic sources.
This means they no longer directly hold all the gold their investors have
paid for. This introduces an element of credit risk to these funds, experts
say.
Goldman Sachs Asset Management runs India's largest gold ETF. It issued a
note to investors last month that the risk profile of the product had
changed. "A situation could arise where the issuer is unable to return
the principal physical gold to GS Gold BeES (their scheme) upon maturity or
in case of an early redemption. Such inability to return physical gold could
arise on account of liquidity problems or general financial health of the
issuer," the note said.
This, in turn, poses a risk to unit holders in the mutual fund scheme.
"GDS (gold deposit scheme), being an unlisted and non-transferrable
security, can be redeemed only with the issuer and, hence, is subject to the
risk of an issuer's inability to meet principal and interest payments on the
obligation (credit risk)," it added.
Dhirendra Kumar, chief executive officer of fund tracker Value Research,
said the nature of the gold ETF had changed. "So far the situation was
that the underlying (product) was gold, and now the gold is lent to someone
else. The lending norms are stringent but, still, the moment you lend, how
the gold will circulate and the process of replenishing the stock as required
add some complexity to the fund," he said.
Niranjan Risbood, director of fund research for Morningstar India, said
the risk was minimal in a benign market but could be magnified in extreme
situations. "I don't think it will have a significant impact in terms of
risk, especially since the institutions they are lending to include entities
such as the largest bank in India. It is only in extreme cases of liquidity
crises, where investors are rushing to redeem in large numbers, that there
would be a risk," he said.
Indian gold ETFs continue to be more conservative than their global
counterparts, according to Risbood. International ETFs offer the option of
investing in gold derivative contracts and take leveraged positions on gold,
he noted. Indian gold ETFs can invest up to 20 percent of their assets in
gold deposit schemes, according to the SEBI circular on the matter. However,
they invest a lower proportion in such schemes, the data shows.
For example, consider the Goldman Sachs Gold ETF Fund, and the R*Shares
Gold ETF. These manage a little more than 50 percent of these assets. They
had invested 4.6 percent and 1.4 percent of their assets in gold deposit
schemes, respectively, according to May-end figures available on the websites
of the two asset managers.
There are currently 13 gold ETFs in existence [in India], with total
assets under management of Rs 9,039 crore, according to June figures from
Value Research.
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