In India, metal gold wins out over paper

India, the world's top gold consumer, has barely scratched the surface for exchange traded funds (ETFs) and it will be a long haul to tempt buyers clinging to jewellery to switch to rules-ridden paper gold.

Though the country consumes 800 tonnes a year -- nearly a fifth of the world's annual gold supply -- in jewellery and physical metal, the funds have attracted investments of less than five tonnes since their listings three months ago.

In contrast, an ETF launched in the United States in 2004 attracted investment equal to eight tonnes of gold on the first day and more than 100 tonnes in about a week. Global gold funds now collectively hold more gold than the Chinese central bank, the world's tenth-largest holder with 600 tonnes.

Analysts said bad timing and rigid government rules were equally to blame for not winning over more Indian investors.

"It has been launched at the wrong time when gold prices have started dipping. People are sitting with surplus cash, but the volatility has kept investors away," said Mumbai-based Gnanasekhar Thiagarajan, director of Commtrendz Risk Management.

"Vibrant equity markets have also kept investors away from gold exchange traded funds (ETFs)," he said.

The Bombay Stock Exchange's main index surged 47 percent in 2006 and another five percent this year. Gold rose 24 percent in 2006 but is only up 1.6 percent so far this year.

Spot gold prices fell to a three-month low of $638.90 an ounce on Wednesday and were at $645.75/646.35 by 1003 GMT. That compares with gold's 11-month high of $696.30 in April and a 26-year peak of $730 in May last year.

Analysts said investment in Indian gold ETFs was a sure bet, provided investors were willing to hang on for a longer period and shed their desire to buy it physically. The interest was being stymied by lack of aggressive marketing.

"The awareness of this type of investment vehicle is still low. Also, if the ETFs have to reach the rural public, the account opening procedures and documents should be kept simple," said S.I. Kannan, analyst with Kotak Commodities.

Mandatory requirements for an income tax identification number made the system difficult for illiterate farmers who buy gold. Rules that prevent commodity firms from giving price guidance were also hampering growth, analysts said.

COMPLICATED STRUCTURE

Analysts said that other issues such as restricting trading in ETFs to Indian stock trading hours prevented investors from taking guidance from global price trends, especially from gold futures in the United States.

Stuart Thomas, managing director of U.S.-based World Gold Trust Service, said the poor response was also a result of the structure of the Indian products.

"With the market size of India, with growth in India, with the affinity for gold, I would call those products sub-optimal," said Thomas, who heads the firm that has launched StreetTRACKS gold ETF , which accounts for 75 percent of gold accumulated by global ETFs.

"It's really a structural issue more than anything else. I think with the right product in that market with the right structure, you have got the massive offtake there," he said.

Analysts said the design of the products -- only in local currency, controls on imports and exports of gold bars, limitations on the foreign exchange trade and several rules imposed by the equities market regulator -- scared investors.

"What has prevented us from really doing something in India is that the current regulations are not favourable for us to roll out our products the way we think they should be," said Pierre Lassonde, chairman of industry-funded World Gold Council, which has sponsored and promoted several gold ETFs in the world.

"It doesn't give the buyer the protection, it doesn't give the buyer the fungibility that we have in other products."

Only about a dozen authorised banks and government trading houses are allowed to import and sell gold in India. Shipments of gold bars are banned, but gold jewellery can be exported.

SPONSORS HOPEFUL

But promoters of Indian ETFs, UTI Asset Management and Benchmark Asset Management, remain optimistic following a pick up in trading, though volumes were still small.

"We have about 10 kg of gold, or 10,000 units being traded every day on the exchange," said Swati Kulkarni, vice-president of UTI Asset Management. "In May, 5,000 units were being traded. In two years, I would think it will be a popular product."

Rajan, Mehta, managing director of Benchmark, which launched the first gold ETF in March, said its growth had been steady.

"It is a cultural shift and it takes time."

Via Reuters