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Gold ETF and Gold FoF A Perspective

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Prologue: Gold, as an asset class, witnessed decline in its performance over the last three years period given the significant correction seen in the prices of gold. In the last one year period ended on June 05, 2015, the Gold in INR terms gained almost nil or 0.03% while in USD term lost 7.02% (as per gold.org data). Considering the Gold ETF category, the AUM of the category declined by 14% in the last one year period and 35% in the last three years period. As per the latest data, the AUM of the Gold ETF category stood at Rs. 6,688 crore (as of May 2015). The Gold ETF category saw net outflows consecutively for the last 24 months with a total of monthly net outflows of Rs. 3,893 crore.

Past: As stated, gold has been remained under pressure for the last three years period after posted an unprecedented 12 straight years profit till 2012. Gold witnessed its tough phase since late 2012, suffered the biggest loss on the back of US Fed tapering concerns, strengthening dollar, high interest rates, bullishness in the stock market and huge selling by Gold ETF. In the domestic front, the gold in INR term posted lower fall compared to its USD term all thanks to the sharp depreciation in the rupee value and growing demand despite the regularity restrictions. Then, Gold posted muted performance in 2014 as the gold prices in USD term posted a marginal of +0.12% while in INR term posted +2.18% on the back of dollar strength and growing demand for higher-yielding risk assets.

Present: The recent periods show the prices of gold move in a narrow range between $1,150/oz and $1,300/oz as the mixed factors are at the play. The factors which have impacted the gold prices negatively included strengthening dollar, optimism about the US economy, rise in the interest rates in the US, the job market scenario in the US. Meanwhile, emergence of geo political tensions that arose in the Middle East after Saudi Arabia and its allies launched air strikes in Yemen and disappointing US employment and other economic data that have made U.S. central bank to hold off on raising rates until early next year all have impacted positively and supported the gold prices to some extent.

Future: Going forward, the prices of the gold in USD term is likely to move downwards in the near term on the back of continued US recovery (slow and modest), capital flows into the U.S. dollar, lack of or fall in inflation seen across the countries, weak commodity prices, monetary policies, emerging financial stability in Europe, rally in the equities all to put gold vulnerable to the downside pressure. However, delayed fed decision on rising rates, better prospects for gold sales in Asia, lower selling from Western investors, and a retreat in mine supply are however, likely to provide an upside tick to the bullion prices.

Expectations for higher interest rates in the US has so far lifted the opportunity cost of holding non-yielding bullion. Any hike by the Fed, which has kept rates near zero since 2008 to stimulate the U.S. economy, could hurt demand for bullion, a non-interest-bearing asset. The speculation over the timing of a rate rise by the fed has kept markets on edge. Given the low inflation and higher unemployment rate, the U.S. central bank is likely to hold off on raising the rates until late 2015.

On domestic front, the gold is likely to move sideways or slightly upwards in the short term in the domestic front given the growing demand for gold bars and jewelry despite the global concerns. Apart from seasonal demand, further depreciation in the rupee value could support the prices of the gold to some extent.

Gold market in India: India is the world's biggest gold consumer followed by China and US. Indian Households hold more than 20,000 tonnes of gold according to WGC that is the largest amount of bullion holdings in the world. Jewellery and investment are the key areas of Indian gold demand. India’s total gold demand was at 811 tonnes in 2014. Historically, India had been the number one gold consumer. China took over that position. However, India still accounts for ~25% of total gold demand.

The recent periods witnessed a fall in the gold demand in the domestic front ever since the import restrictions began in mid-2013. The government of India came up with slew of measures to reduce the gold imports intended to curb India’s Current Account Deficit (CAD) thus increasing the import duty on gold bars to 10%, increasing the import duty on gold

RETAIL RESEARCH

June 17, 2015

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jewellery from 10% to 15% in Sep 2013. The government further announced the total ban on import of gold coins and medallions and introduced 80:20 rule. All resulted in gold imports falling sharply to 85 tonnes in Q3’13 from 338 tonnes seen in the previous quarter while the Jewellery demand dropped 23% yoy on Q3 of 2013.

The RBI then removed the 80:20 rule soon after the current account deficit narrowed to 1.7% of GDP in FY14. In January 2015, Indian gold imports climbed 55% yoy to 57.2 tonnes, from 39 tonnes in December on the heels of easing import restrictions. It is worth noting that India has imported close to 111 tonnes of gold during this year’s Akshaya Tritiya festival. However, Finance Minister Mr.Jaitley retained the import duty at 10% in the budget on Feb. 28, 2015 (as imposed in 2013).India’s total gold import in the month of April 2015 was about 85 tonnes while in the month of March, it was much higher at 121.8 tonnes.

The gold demand in India continues to remain strong, despite the volatility in gold prices and the unfavorable currency movements. India is likely to become the world’s top consumer this year as economic growth accelerates and China’s booming equity markets reduce the appeal of bullion.

Nearly three-fourth of the country’s gold demand in from gold jewelry sector. Rural population accounts for almost two-thirds of the gold jewelry demand. The rising rural middle class population in the country will provide long term support to gold demand in the country. Declining prices and easing of regulatory restrictions also to provide support. Above all, the country’s natural affinity with gold as a savings asset will support more demand for gold.

In the Union Budget 2015, the Finance Minister proposed two significant schemes pertaining to the gold viz., gold monetization scheme and sovereign gold bond.

Gold monetization scheme: Gold monetization scheme will encourage Indians to vest the gold in their possession with banks and earn interest on it. Customers will receive tax incentives on their gold deposits, likely to be tax-free interest, while banks may be allowed to use these deposits to meet their requirements for statutory liquidity ratio (SLR) and cash reserve ratio (CRR). The Finance Minister announced the introduction of a gold monetization scheme to replace the 1999 gold deposit scheme and gold metal loan scheme—which had failed to win traction with consumers. The government of India came up with a draft on May 19, 2016 says that customers will have to approach a purity testing centre and get their gold, either bullion or jewellery, appraised.

The minimum quantity of gold that a customer can bring is proposed to be set at 30g, so that even small depositors are encouraged. Bank are free to decide their own interest rates. Both the principal and interest to be paid to the depositors of gold will be ‘valued’ in gold. “For example, if a customer deposits 100g of gold and gets 1% p.a. interest, then, on maturity after one year he has a credit of 101g. The customer will have the option of redemption either in cash or in gold, which will have to be exercised in the beginning itself (that is, at the time of making the deposit).

Sovereign Gold Bond: The gold bond will work just like a regular coupon bearing bond that the government issues to borrow money for various purposes. The government receives

money from investors, who invest in the bond, and pays a fixed periodic interest known as coupon on it. On maturity, it returns the money to the investors. Similarly, in a gold bond, investors, such as households, will be able to lend money to the government by investing in a bond whose price will be based on the price of a fixed quantity of gold.

On this, they will periodically receive a coupon (1.5-2% according to estimates). On maturity or sale of the bond, the bond holder will receive an amount equal to the value of the underlying amount of gold as on that date. Therefore, they will get the same return as buying gold bars or coins and selling them later, when their price increases.

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Jewellery demand in India:

Total bar and coin demand in India India - Net imports available for consumption in tonnes:

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Gold – Background:

 Gold had been a better performing asset over the last three decades till 2012 among the investment options available in the world. Despite the mediocre performance posted in the last two to three years periods, Gold has consistently outperformed other traditional asset classes such as equity, debt, currencies and other commodities irrespective of most of market and economic cycles with a compounded annual growth rate of 10.6% in USD term and 14.9% in INR term for the last ten year period (as on June 05, 2015).  Given its special status of universally accepted medium-of-exchange, gold has been used as the standard for many currencies in history.

 Gold is a foundation asset within any long term savings or investment portfolio. For centuries, particularly during times of financial stress and the resulting 'flight to quality', investors have sought to protect their capital in assets that offer safer store of value. Gold offers refuge from widespread default risk. It offers investors insurance against extreme movements in the value of other asset classes.

Gold – History:

 One of the oldest civilizations, the Sumerians of Mesopotamia, who lived in what is modern-day Iran and Iraq, first used gold as sacred, ornamental, and decorative instrument in the fifth millennium B.C.

 The early Egyptians used gold primarily for personal adornment, rather than for monetary purposes, although the kings of the fourth to sixth dynasties (c. 2700 - 2270 B.C.) did issue some gold coins.

 The first large-scale, private issuance of pure gold coins was under King Croesus (560-546 B.C.), the ruler of ancient Lydia, modern-day western Turkey. Stamped with his royal emblem of the facing heads of a lion and a bull, these first known coins eventually became the standard of exchange for worldwide trade and commerce.

 Gold is traditionally weighed in Troy Ounces (= 31.1035 grams). It has a specific gravity of 19.3, meaning that it is 19.3 times heavier than water. Applications of Gold:

 Jewellery: Jewellery is one of the major demand drivers for the yellow metal and the demand comes mainly from India & China who contribute more than 50% of the world

jewellery demand.

 Technology: The usage of gold in technology is because of its qualities such as corrosion resistance, good conductor of electricity, etc. Gold is widely used as connectors & wires in various electronic items as its reliability is high.

 Medicine: Gold’s medicinal importance has been researched many centuries ago & Chinese and Indian people use gold for medicinal purposes. Gold in recent years has been used extensively in dental applications, due to its resistance to corrosion and is not harmful when it comes into contact with body.

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 Space & engineering: Gold has many important qualities such as good reflector of heat & infrared radiation. Gold coating is applied on various items used in space to protect against various radiations that occur.

Weight Equivalents:

Percent Gold European System Karat System

100% 1000 Fine 24 Karat

91.70% 917 Fine 22 Karat

75.00% 750 Fine 18 Karat

58.50% 585 Fine 14 Karat

41.60% 416 Fine 10 Karat

1 troy ounce = 31.1 grams

1 troy ounce = 480 grains

1 gram = 0.03215 troy ounces

1000 troy ounces = 31.3 kilograms

1 kilogram = 32.15 troy ounces

Factors influencing gold prices:

 High Inflation: During high inflation, investors tend to invest in gold as it is seen as a good hedge against inflation. Rising inflation appreciates gold prices as people start investing in the yellow metal.

 Interest rates: The demand for gold increases when the interest rates trend down and vice versa. Lowering interest rates increases gold prices as gold becomes a better investment option vis-a-vis debt products that earn lower interest.

 Weakness in other asset classes and lack of safe havens: When the economy and financial markets do not do well, gold investments can provide a good hedge for any portfolio. Gold is negatively co-related to most of asset classes.

 Decline of Mine production and Supply: Gold mining and production have been decreasing in the recent periods while there is an increase in the demand for gold. An increase in the cost of mining, strikes by gold miners, legal formalities, geographical problems and worsening political situation have led to a fall in gold mining.

 Demand and supply factors: A change in supply could alter the price of gold. If there is a sharp increase in production, its price is likely to fall. Likewise, the fluctuations in price tend to occur due to changes in demand.

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 Changes in exchange rates: Weaker USD usually leads to an increase in world gold prices. It is because investors choose to sell their dollar and buy gold with the hope that gold can protect the value of their dollar assets.

 Geo political and economic concerns: Whenever there is uncertainty prevailing in the globe, the prices of gold shoot up. In the recent financial crisis the gold prices were in uptrend.

 Economic data: The macro economic data such as unemployment data, GDP & Home sales also impact gold prices. When the economy is growing, investors will move the funds from safe assets to the riskier assets, which give higher returns. Other factors such as speculation, demand for jewellery, changing government policies, government borrowing, sentiment, liquidity, safe Haven Buying, manipulation, rising population affect the price for gold.

Gold Investment Options :

 Jewellery: Investing in jewellery may not be considered as investment as jewellery is generally not made from 24 carat gold; it is generally made from 22 carat or 18 carat gold since 24-carat gold is brittle and cannot be set to beautiful designs of jewellery. Investors have to pay for the making charges and wastages. When liquidated, the making charges, impurities and wastage will be cut and investors may end up getting less than what had invested.

 Gold bars or coins: Government-certified gold coins or bars have purity level of close to 99.9 and they can be sold easily. Banks charge extra for their coins of anywhere between 5% and 10%. Also the bank coins have lesser liquidity as they are not bought back by the banks. Bullion bars are good modes for investment but the minimum investment is much higher.

 Gold certificates. is a certificate which represents ownership of gold bullion held by a financial institution for convenient and safe storage. There is a fee for storage and insurance.

 E gold: National Spot Exchange Limited (NSEL), India used to offer E-series to invest in gold. Retail investor can trade in commodities especially precious metal like gold in e-form. Like equities one can keep their gold in demat form, which not only saves on insurance cost and locker rent but also one can invest in small denominations.

 Gold Exchange Traded Funds: They are mutual fund schemes, listed on the stock exchanges and traded like shares. The pooled amount is invested in the physical gold. When

redeeming the units, investor can go to the fund house or sell in the market and get them converted in to cash. Gold ETFs are proving to be an easier and safer mode to buy gold. The charges are very less and the gold can be accessed electronically. Mutual funds further offer gold fund of funds in which investors can invest as much small amount as Rs. 100 every month and where they don’t need to have a demat account.

 Gold Mutual Funds: Gold mutual funds hold portfolios of gold mining companies and are directly linked to gold prices. They are actively managed as they are handled by the fund managers. Apart from above, various schemes announced by institutions to promote savings in gold.

 In the Union Budget 2015, the Finance Minister proposed two significant schemes pertaining to the gold viz., gold monetization scheme and sovereign gold bond. Gold monetization scheme will encourage Indians to vest the gold in their possession with banks and earn interest on it. Sovereign Gold Bond will work just like a regular coupon bearing bond that the government issues to borrow money for various purposes.

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Rationale behind investing in Gold:

 Gold is valued and traded in all the countries of the world. Gold is the most liquid asset among all options.

 An investment portfolio with an allocation to gold improves the consistency of the portfolio making it strong and stable. Gold has provided consistent appreciation on a continuous basis over the past decade.

 Gold has a low correlation with major indices/most other asset classes and hence is a good portfolio diversifier. Ideally Gold should constitute 5-10% of one’s portfolio on a continuing basis.

 Gold still has been considered as good tactical hedge against inflation.

 Gold is used to hedge currency exposure. It has been a part of portfolios since ancient times to guard against economic pitfalls or disasters.

 Gold acts as a safe haven during economic crisis and market downturns. The price of gold is not linked to the performance of an economy, industry or company. Its appreciation is not affected by market volatility.

Rationale behind investing in Gold ETF:

 Investors can buy and sell the units of Gold ETF directly on the stock exchange through registered brokers.  Units of Gold ETF are held in the demat form just like equities.

 Gold ETFs give an opportunity to investor to invest in standard gold bullion (0.995 purity) without taking physical delivery of gold nor compromising with its quality.

 No entry/exit load. The total expense ratio charged by funds has been a maximum of 1% per annum.

 These will not be liable to wealth tax.

 A custodian is appointed by the AMC for safe keeping of the gold bought on behalf of the investors. Gold ETF:

Gold ETFs are passively managed mutual fund schemes investing in standard gold bullion having 99.5% purity. They are listed on the stock exchanges for trading with an intention to offer investors a means of participating in the gold bullion market without the necessity of taking physical delivery of gold. These are designed to provide returns that closely correspond to the returns provided by domestic price of Gold.

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Gold ETF History:

 Globally, In May 2003 the first Gold Bullion Security was launched in Australia.  In Nov 2004 the World’s 1st Gold ETF –Street Tracks Gold Trust was launched.

 Benchmark Mutual Fund was the first AMC to launch a Gold ETF in India - “Gold BeEs” in February 2007.  As of today, 13 fund houses have launched Gold ETFs.

 The AUM of the category witnessed increased from Rs.96 crore in March 2007 to Rs. 6,688 crore in May 2015, representing close to1% of the mutual fund industry AUM. However, the recent periods witnessed declining in the corpus due to the fall in the prices of gold.

Advantages of Gold ETF:

ETFs have more advantages compared to actively managed funds. They are as follows;

 Small denomination: Retail investors, who want exposure to gold in small amounts, can opt for Gold ETFs. It allows investors to buy one unit, which is buying 0.5 - 1 gram of gold depending on the scheme.

 Liquidity: Gold ETFs are can be bought and sold any time during the trading hours like equities at the price quoted on the exchange. This makes it a liquid investment instrument.

 Transparent Pricing: The price of ETFs is quoted on the stock exchange and there is a bid/ask during market hours enabling you to buy/sell at market prices. Thus you do not have to pay a premium while you purchase or a sell at a discount as in the case of jewellery or even sometimes in coins and bars.

 Safety: Gold ETFs is essentially buying gold in paper form. So the investor does not have to take the trouble of safe keeping of the gold. The custodian appointed by the AMC has the responsibility of taking care of the gold.

 Purity: Mutual funds are governed by SEBI and SEBI regulations require the purity of underlying gold in Gold ETFs to be 99.5% fineness and above. This spares investors the trouble of finding a reliable source to buy gold.

 Tax Efficient: Gold ETFs do not attract wealth tax. Besides, the investment is categorized as long term if it held for more than a year unlike physical gold where the period is 3 years.

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Disadvantages of Gold ETFs:

 Demat account: Demat account and broker’s accounts are mandatory for an investor to participate in the gold ETF trading as they are traded in stock exchanges. However, no demat and broker accounts are necessary in case of gold fund transactions.

 Brokerage Charges: The brokerage charges need to be paid when trading in ETFs. It can be minimized by trading less but the very charm of ETFs is lost because it is meant for being traded more often than an index fund.

 SIP in ETF is not applicable in ETFs. But gold funds provide the facility to invest through SIP with minimum amount of Rs. 100.

 True Replication: The ETFs may not replicate the returns of underlying index due to management expenses, cash holding and so on which result in higher tracking error. Gold ETFs Market in India:

 Over the past few years, the Indian gold ETF market witnessed a significant development notwithstanding a smaller in terms of size. Indian investors seek greater access to more liquid gold investments the ETF concept have gained more popularity among them.

 The Indian Gold ETF industry offers 13 gold ETFs and 11 gold FoFs. The total AUM of Gold ETF as of May 2015 stood at Rs. 6,688 crore while the AUM of Gold FoF was at Rs.

2,599 crore. As of May 2015, the collective holding by Indian ETFs in gold stood at 25 tonnes (approx).

 Total traded volume in Gold ETFs also witnessed a fall on the NSE especially during 2014 with a daily average of Rs. 12 crore (Rs. 92 crore in 2013, Rs. 25.44 crore in 2012, Rs. 41.09 crore in 2011 and Rs. 14.43 crore in 2010) which shows a fall in the volume in the Indian Gold ETFs industry.

 As far as net flows are concerned, the Gold ETF saw net outflows of 24 consecutive months due to fall in the investors’ interest. The category witnessed average monthly net outflows of Rs. 165 crore during the period.

 Considering the folios of the Gold ETFs, the number of folios witnessed decline in the recent periods (especially from Aug 2013) . The total folios for the Gold ETF category as of May 2015 stood at 4.66 lakh.

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Trend in the AUM (Rs Crs) of gold ETFs in India:

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Physical Holding by Indian ETFs (tonnes) Vs. Gold India spot price (10g):

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Daily turnover (Rs crs) in gold ETFs on NSE over periods:

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Gold Demand by Global ETFs over years (in tonnes):

Top Global Gold Backed ETFs (in terms of AUM):

Fund Exchange Region

SPDR Gold Shares (GLD) NYSE North America

ZKB Gold ETF SIX Swiss SE Europe

iShares Gold Trust NYSE North America

ETFS Physical Gold London SE Europe

Gold Bullion Securities - UK London SE Europe

Julius Baer Physical Gold SIX Swiss SE Europe

XETRA - Gold Deutsche Boerse Europe

NewGold Johannesburg SE Africa

CS II Gold ETF SIX Swiss SE Europe

ETFS Physical Swiss Gold Shares NYSE North America

Gold Funds (FoF):

Gold Fund of Funds (FoF) are mutual fund schemes (not an ETF) investing primarily in units of gold ETFs. They seek to provide returns that closely correspond to returns provided by the Gold ETF. They are passively managed funds which enable an investor to save in the form of gold in a convenient manner either through lump sum investment or through systematic investment. The face value of the gold funds is at Rs. 10.

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Features of Gold Fund (FoF):

 Demat account not mandatory: Investors can invest in gold funds through the regular process of subscription i.e. in physical mode. The subscription through demat mode is an option for the investor but not a mandatory to invest in gold fund. Demat is compulsory in case of gold ETF investment.

 Cost Effective: Investing in physical mode enables you to invest at a lower cost as the investor does not have to incur the charges for the demat account and brokerage.  Liquidity: Investor can subscribe or redeem the units on all business days directly with the Fund. The face value of the gold funds is at Rs. 10. Exit load is charged between 1% to

2% by all gold funds. Apart from the expenses of Gold Funds, they also bear the expenses of the underlying schemes in which the scheme makes investment. Performance of Gold ETFs and Gold Funds:

Scheme Name Latest Corpus (Rs Crs) Exp Ratio (%) Exit Load (%)

Point to Point Returns (%)

Tracking Error (Daily)

Daily Average Traded Volume for the last one year period (Rs

Crs) Discount (+) / Premium (-) of Spot Price to NAV (%) 1 Month 3 Month 6 Month 1 Year 3 Year 5 Year 7 Year 10 Year Gold ETF

Axis Gold ETF 270 1.00 NA -1.04 0.55 1.22 0.35 -3.96 - - - 0.75 0.10 0.64%

Birla SL Gold ETF 78 0.89 NA -1.07 0.73 1.03 -0.83 -3.81 - - - 0.80 0.04 1.60%

Canara Rob Gold ETF 111 1.00 NA -0.73 0.14 1.14 -1.03 -4.48 - - - 0.76 0.27 -0.21%

GS Gold BeES 1875 0.93 NA -1.02 0.60 1.31 0.55 -3.87 5.78 10.66 0.74 5.23 0.81%

HDFC Gold ETF 622 1.00 NA -1.04 0.54 1.20 0.33 -3.93 - - - 0.75 0.49 -0.03%

ICICI Pru Gold ETF 123 0.68 NA -1.03 0.27 0.96 0.16 -3.81 - - - 0.75 0.12 1.66%

IDBI Gold ETF 111 1.20 NA -1.03 0.57 1.27 0.47 -3.93 - - - 0.75 0.08 1.36%

Kotak GOLD ETF 542 1.00 NA -1.05 0.55 1.20 0.33 -4.00 5.79 10.62 - 0.75 0.74 1.11%

Quantum Gold Fund ETF 60 1.00 NA -1.04 0.56 1.23 0.40 -3.89 5.87 10.69 - 0.72 0.10 0.10%

R* Shares Gold ETF 1480 1.00 NA -1.12 -0.04 0.34 -1.03 -3.98 5.84 10.43 - 0.75 0.68 1.93%

Religare Invesco Gold ETF 46 1.00 NA -1.04 0.56 1.09 -2.35 -3.90 5.87 - - 0.76 0.02 1.80%

SBI Gold ETF 1008 1.01 NA -1.05 0.55 1.24 0.45 -3.79 6.00 - - 0.75 1.18 1.22%

UTI Gold ETF 494 1.06 NA -1.04 0.55 0.99 0.00 -3.97 5.82 10.66 - 0.75 0.74 1.62%

Gold - FOF

Axis Gold Fund(G) 89 1.70 1.00 -0.93 -0.28 0.70 -4.49 -5.87 - - - -

Birla SL Gold Fund(G) 54 0.50 2.00 -1.18 0.89 0.77 -0.61 -4.41 - - - -

Canara Rob Gold Saving Fund-Reg(G) 102 0.70 2.00 -0.65 0.21 1.43 -2.52 - - - -

HDFC Gold Fund(G) 297 0.50 2.00 -0.64 0.58 1.07 -1.47 -4.42 - - - -

ICICI Pru Regular Gold Savings Fund(G) 64 0.30 2.00 -0.29 0.02 1.40 0.14 -3.91 - - - -

IDBI Gold Fund(G) 66 0.51 1.00 -1.11 0.38 0.78 -0.31 - - - -

Kotak Gold Fund(G) 238 0.70 2.00 -1.14 -0.74 0.30 -2.17 -4.72 - - - -

Quantum Gold Saving Fund(G) 11 0.25 1.50 -0.91 -1.40 -0.69 -3.12 -4.52 - - - -

Reliance Gold Savings Fund(G) 1071 0.70 2.00 -0.70 0.22 1.22 -1.30 -4.55 - - - -

Religare Invesco Gold Fund(G) 18 0.50 2.00 -1.02 0.68 0.66 0.95 -4.41 - - - -

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Benchmark

Gold in INR Term - - - -1.16 0.09 0.73 -0.18 -3.21 6.93 11.35 15.10 - - -

Gold in USD Term - - - -1.79 0.32 -2.25 -6.75 -9.80 -1.26 3.95 10.65 - - -

Note: Trailing Returns up to 1 year are absolute and over 1 year are CAGR. NAV/index values are as on June 08, 2015.

Yearly Performance of gold In INR & USD terms:

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Asset growth (Rs Crs) of top traded gold ETFs over periods:

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How ETF works?

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Gold ETFs Mechanism:

Authorized participants: The fund house appoints market makers in the stock market to execute all the transactions on behalf of the fund house. The market-makers, also called as arbitrageurs or Authorized Participants (APs) act as intermediaries between retail investors and the gold ETF sponsor through the exchange. Authorized participants get creation units from the gold ETF sponsor in exchange of physical gold. Creation unit usually comprises of 1000 grams of physical gold. Authorized participants then take care of creating the market by supplying gold ETF units as per the demand. A gold ETF unit usually represents either 1 gram of gold or half gram of gold so that small investors can buy.

Custodians: The gold ETF sponsor arranges for safe custody of the physical gold. Usually, specialists called custodians do this job for sponsors for a fee. The gold ETF sponsor is responsible for quality of gold, safety of gold. The gold ETF sponsor takes adequate insurance for physical gold. The gold ETF sponsor can also invest in money market instruments upto the percentage mentioned in the offer document. Bank of Nova Scotia, Scotia Macotta and Deutsche Bank AG are some of custodians of the Indian Gold ETFs.

Arbitrage opportunity: Since the price of gold ETFs is driven by market forces (demand and supply), usually they trade at a premium or discount to their NAVs (net asset values). The role of the fund houses is to keep the market price of the gold ETF close to its NAV with the help of Authorized Participants. The Authorized Participants take advantage of any significant premium or discount between the gold ETF market price and its NAV by doing arbitrage between the gold ETF and its underlying index.

When an ETF is trading at a discount to its NAV, then the Authorized Participants will buy gold ETF units and then sell the same to the AMC (in creation units); after taking delivery of the underlying stocks, the Authorized Participants will sell the same in the markets, thereby benefiting from the arbitrage opportunity. The converse will be done when an ETF is trading at a premium to its NAV. The arbitrage mechanism ensures that there is no significant premium or discount to the NAV. At the same time, additional demand/supply is absorbed due to the action of the Authorized Participants.

Who will guarantee the purity bought? The authorised custodian (safe keeper) sources gold from LBMA (London Bullion Market Association) approved refiners on behalf of investors. The amount of physical gold held by the custodians in all schemes is of fitness (purity) of 99 part per 1000. (i.e, 99.5% pure). The gold held with the custodian is fully insured.

Tracking Error:

Investors in an ETF buy or sell a security representing shares in the underlying index fund. They do expect the price of the ETF to closely track the value of the underlying Index. The Schemes’ returns may deviate from those of their respective underlying indices. The measure to calculate the deviation is called as Tracking Error. Tracking Error is defined as the standard deviation of the difference between daily returns of the underlying index and the NAV of the respective Schemes. For example, a tracking error of 1% implies that if the index return is 10%, the ETF return should be 9%-11% about 68% of the time.

Tracking Error may arise due to the following reasons; Expenditure incurred by the Fund, Available funds may not be invested at all times as the Scheme may keep a portion of the funds in cash to meet Redemptions, for corporate actions or otherwise, Rounding-off of the quantity of shares in the underlying index, Regulations and internal policies and indirect taxes and etc.

Bid ask Spread: An ideal gold ETF has a low bid/ask spread. ‘Bid’ means the investor should know the price at which he can buy units and ‘ask’ means he should know the price at which he can sell units. The difference between bid and ask should be very little, in an ETF.

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Tax implications on Gold ETFs:

Type of Taxation Gold Fund (FoF) Gold ETF Jewellers Banks

Short Term Capital Gain Tax Applicable before 3 years Applicable before 3 years Applicable before 3 years Applicable before 3 years

Long Term Capital Gain Tax Applicable before 3 years Applicable before 3 years Applicable before 3 years Applicable before 3 years

Discount (+) / Premium (-) of Close Price of Gold ETFs to their NAV:

As the ETFs are passively managed investments, the prices of gold ETFs must theoretically move in tandem with the price of physical gold. When the price of gold moves up, the value of ETFs appreciates and vice versa.

It is worth noting that like all traded instruments, the traded price of the ETF is influenced by demand and supply dynamics, and therefore is often different from the NAV of the ETF. The NAV of the ETF reflects the end of day value of the units based on the holdings of the ETF reflecting the price of gold, after charging expenses for fund management.

Quite often, the traded prices of the ETF are quite different from the NAV due to low trades and other factors. In some cases, the traded price of the ETF may be lesser than the NAV of the ETF (discount of close price to the NAV). That means that a selling trade made on such a day will lead to losses for the investor.

When the traded price is more than the NAV (premium of Close price to the NAV), it means that the unit holder is getting a price for his units in excess of the actual value of investment. So any buying on exchange will lead to loss to the investor. This can happen if the demand for units is very high. Usually a large difference in the price of the traded price and NAV corrects itself over time, offering an arbitrage opportunity by the market makers.

Even as Gold ETFs hold the promise of providing instant liquidity during trading hours, the poor trading volumes across some of the ETFs act as a deterrent to such liquidity. Investors have to be careful on this, however one cannot notice such mispricing during the market hours as the NAV of the day is disclosed post market hours.

The below table lists out the average, minimum and maximum of the premium or discount of the spot price to their NAVs in the last one year period. Discount (+) / Premium (-) of Close Price of Gold ETFs to their NAVs in the last one year period:

ETF Avg Min Max

AXIS Gold Exchange Traded Fund 0.64% -3.44% 2.87%

Birla Sun Life Gold ETF 1.60% -2.25% 4.51%

Canara Robeco Gold Exchange Traded Fund -0.21% -2.17% 1.03%

GS Gold BeES 0.81% -2.61% 2.83%

HDFC Gold Exchange Traded Fund -0.03% -3.38% 2.04%

ICICI Pru Gold Exchange Traded Fund 1.66% -2.17% 4.48%

IDBI Gold Exchange Traded Fund 1.36% -2.08% 3.70%

Kotak GOLD ETF 1.11% -2.64% 4.20%

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R* Shares Gold ETF 1.93% -1.49% 4.36%

Religare Invesco Gold Exchange Traded Fund 1.80% -1.98% 5.37%

SBI Gold Exchange Traded Fund (G) 1.22% -1.45% 3.52%

UTI-Gold Exchange Traded Fund (G) 1.62% -2.00% 3.87%

NEWS:

Winding up of Motilal Oswal MOSt Shares Gold ETF (MGOLD):

Motilal Oswal Mutual Fund wound up the Scheme - Motilal Oswal MOSt Shares Gold ETF, an only gold ETF in India which offered investors an option to redeem their units by getting delivery of physical gold.

In its notice dated on March 17, 2015, Motilal Oswal Mutual Fund announced the Winding up of Motilal Oswal MOSt Shares Gold ETF.

On March 30, 2015, Motilal Oswal Mutual Fund informed BSE that the meeting of Unitholders’ of the Scheme, Motilal Oswal MOSt Shares Gold ETF approved the resolution of winding up of the Scheme, Motilal Oswal MOSt Shares Gold ETF by simple majority and decided to cease to carry on any business activities in respect of the scheme.

The fund house stated the reason for the winding up of Motilal Oswal MOSt Shares Gold ETF was due to the changes in gold import regulations which resulted in shortages of gold bullion. Further, the Fund house had been unable to consistently cater to physical redemption requests from investors due to irregular availability of required denominations. The Scheme stood wound down as on March 31, 2015.

The company source said that they stopped redeeming of Motilal Oswal MOSt Shares Gold ETF for physical gold from February month onwards and asked the unit holders to redeem from the exchanges. All the units of the all unitholders were (forcefully) redeemed by the AMC by March 31, 2015 and the money is to be credited in the respective accounts of the unitsholders on 7th and 8th of April 2015. The NAV value of the Motilal Oswal MOSt Shares Gold ETF stood at Rs. 2,529.56 as on March 31, 2015.

Motilal Oswal MOSt Shares Gold ETF was launched on March 22, 2011 and the ETF witnessed traded on NSE with the daily average volume of Rs. 22 lakh since listed. The average corpus of the ETF for the last one year period stood at Rs. 53 Crs.

Analyst: DhuraivelGunasekaran (dhuraivel.gunasekaran@hdfcsec.com) Source: Gold.org, AMC Websites, NAVIndia.com & ACEMF.

RETAIL RESEARCH Tel: (022) 3075 3400 Fax: (022) 2496 5066 Corporate Office

HDFC securities Limited, I Think Techno Campus, Building - B, "Alpha", Office Floor 8, Near Kanjurmarg Station, Opp. Crompton Greaves, Kanjurmarg (East), Mumbai 400 042 Phone: (022) 3075 3400 Fax: (022) 2496 5066 W ebsite: www.hdfcsec.com Email: hdfcsecretailresearch@hdfcsec.com

Disclaimer: Mutual Fund investments are subject to risk. Past performance is no guarantee for future performance. This document has been prepared by HDFC Securities Limited and is meant for sole use by the recipient and not for circulation. This document is not to be reported or

copied or made available to others. It should not be considered to be taken as an offer to sell or a solicitation to buy any security. The information contained herein is from sources believed reliable. We do not represent that it is accurate or complete and it should not be relied upon as such. We may have from time to time positions or options on, and buy and sell securities referred to herein. W e may from time to time solicit from, or perform investment banking, or other services for, any company mentioned in this document. This report is intended for non-Institutional Clients

This report has been prepared by the Retail Research team of HDFC Securities Ltd. The views, opinions, estimates, ratings, target price, entry prices and/or other parameters mentioned in this document may or may not match or may be contrary with those of the other Research teams (Institutional, PCG) of HDFC Securities Ltd.

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