What is Gold ETF?
Exchange Traded Funds ("ETFs") are open-ended funds that trade on a stock exchange just like the shares of an individual company. Unlike the share of a company, each unit of an ETF represents a portfolio of stocks. So it is similar to a unit of an open-ended mutual fund but with a big difference. The difference between an ETF and an open-ended mutual fund is that the units of an ETF trade on an exchange. So the investor can trade in the ETF during market hours and the units can be sold short or margined just like shares.
Another difference between ETFs and mutual funds is the type of management. Mutual funds employ an active management strategy wherein the fund manager actively chooses the portfolio of stocks and manages them in an endeavour to outperform the fund's benchmark. However, ETFs employ a passive management strategy because they are generally designed to closely track the performance of a specific index. So the fund manager creates the portfolio based on the composition of the benchmark index the ETF is supposed to track and then passively manages the portfolio to ensure that the composition of ETF mirrors the benchmark at all times. There could be slight deviations from this strategy at times if the fund manager feels it is necessary to outweigh or underweigh certain stocks with respect to the benchmark in order to achieve a better return than the benchmark.
Advantages of ETF:
ETFs are supposed to be tax efficient because there have a lower churn of the portfolio owing to the passive management strategy.
ETFs can be traded during market hours and can be sold short or margined.
ETFs have a lower management cost than conventional mutual funds because ETFs do not have to bother about shareholder accounting. Mutual funds have to spend a considerable amount of time and effort in complying with shareholder accounting processes.
Disadvantages of ETF:
Even though ETFs are designed to track an underlying benchmark index, they may not exactly mirror the performance of the index owing to certain management costs charged by the fund.
Since ETFs are passively managed, they can not provide an active return over the benchmark during upmarket moves unlike actively managed mutual funds where the fund managers is constantly trying to beat the benchmark.
ETFs have a lower management cost than conventional mutual funds because ETFs do not have to bother about shareholder accounting. Mutual funds have to spend a considerable amount of time and effort in complying with shareholder accounting processes.
Gold ETF:
Gold ETFs are exchange traded funds that are meant to track closely the price of physical gold. So gold ETF lets you own gold in your dmat account. Each unit of the ETF lets the investor own 1gm of gold without physically owning it. Thus investing in a gold ETF provides the benefit of liquidity and marketability which are a limitation of owning physical gold. Gold ETF is liquid because you can trade in it at any time during market hours. Gold ETF is marketable because you can trade any amount in it just like a normal stock including short selling and buying on margin. Owning gold ETF also is cheaper than owning physical gold because it has no cost of carry (the cost of storing physical gold).
What are commodities?
A commodity is a physical good which has a demand for itself and the market treats all sources of supply equally without any differentiation. The price for a commodity is determined purely by global demand and supply. Commodities have emerged as a popular asset class in the recent times because they provide a good hedge against inflation because in an inflationary environment, the nominal price of commodities starts rising even though their real value is unaffected. Since the price of the commodity is usually denominated in the domestic currency, its real value in the home country is unaffected by inflation.
