SEBI regulated entities can no longer offer digital gold products

India is the second-largest consumer of gold in the world after China. Gold holds a lot of cultural significance for Indians. The average Indian household has over 11% of its wealth in gold and it’s the second biggest asset among households after real estate. Gold and real estate combined account for 80-95% of Indian household assets. Financial assets like stocks and mutual funds account for just about 5%. 

Historically getting easy exposure to gold was hard, the only options were physical gold and jewellery. The first gold ETF was launched in 2007 and made it relatively easier for people to get exposure to gold. Though things have improved substantially in the last 3-4 years, ETFs still suffer from liquidity issues. The Sovereign Gold Bond (SGB) scheme was announced in 2015 and it was a brilliant product for investors. Apart from the market returns of gold, SGBs paid an annual interest of 2.75%-2.50%. A small issue with SGBs was that the minimum quantity was 1 gram and there wasn’t any option to invest smaller amounts. 

Around 2016-17 the first digital gold product went live. Digital gold is an online form of investing in gold, on a broader level it’s similar to a gold ETF. Companies like MMTC PAMP and Safegoldt allowed fractional investing in gold, both directly and through platforms that they powered for as little as Rs 1. Behind the scenes, they stored the gold in a vault overseen by a custodian over which the buyers had a claim. 

Soon, pretty much all major wallets, payments apps, brokers and investment platforms started offering it. The pitch was that people could invest as little as Rs 1 in gold and could buy and sell anytime.

And in the recent past, they’ve become big business. But like we had written earlier, digital gold can be quite expensive. A 3% GST is applicable on purchase plus 3%+ in spreads. But the problem was that digital gold isn’t regulated by anyone. Even though the digital gold providers store the gold with a custodian like Brinks and appoint a trustee like IDBI to oversee the gold on behalf of the investors, the regulatory risk still remains. 

Give the regulatory concerns, on August 10th, NSE issued a circular asking all trading members to stop offering digital gold:

Member’s attention is drawn to Rule 8 (3) (f) of Securities Contracts (Regulation) Rules, 1957 (“SCRR”), which restricts all Members from engaging, either as principal or employee, in any business, other than that of securities or commodity derivatives, except as a broker or agent, not involving any personal financial liability. 

It has, however, come to the notice of SEBI/Exchange that certain Members are providing a platform to their clients for buying and selling of digital gold. SEBI vide its letter dated August 03, 2021, has informed Exchange that the said activity is in contravention of the aforementioned Rule 8 (3) (f) of SCRR, and the Members should refrain from undertaking any such activities. 

In view of the same, Members are hereby directed not to carry out the said activity and comply with the regulatory requirements at all times. Members, currently engaging in the activity, shall cease to undertake all activities in this regard, within one month from the date of this circular during which necessary communications, regarding the discontinuation, shall be made to the respective clients.

What does this mean? 

Trading members registered with the exchanges and SEBI can no longer offer digital gold. This includes brokers and other investment platforms. The exchanges have given all members 1 month to comply with the circular. 

Why this move?

The Securities Contracts (Regulation) Act, 1956 prohibits trading members from engaging in any business activity that might involve financial liability

No person shall be eligible to be elected as a member if – he is engaged as principal or employee in any business other than that of securities 5 [or commodity derivatives] except as a broker or agent not involving any personal financial liability unless he undertakes on admission to sever his connection with such business.

SEBI and the exchanges are of the view that selling digital gold involves financial liability and hence have disallowed trading members from offering it. This is unlike products like  National Pension System (NPS) or insurance offered by trading members where there is no financial liability involved given that these are regulated products.  

What does this mean for investors? 

Investors will longer be able to invest in digital gold from on platforms offered by brokers or through their subsidiaries, including those that aren’t regulated by SEBI.  

What does this mean for other platforms?

This circular is applicable only to trading members offering digital gold. Other platforms that aren’t regulated by SEBI/Exchanges can continue to offer it. 

Having said that, there’s a place for a gold-based micro-savings product. Given that everybody knows about gold, it can help people start saving quickly and eliminate the choice overload problem with other investments. SEBI and exchange regulated entities can instead offer an option for investors to save in gold exchange-traded funds (ETF’s). The unit prices are as less a Rs 40 currently. They are safe, liquid and cost-efficient.    

On a side note, in this year’s budget speech, the finance minister had announced that a Gold Exchange would be set up under the supervision of SEBI. This is still at a conceptual stage and SEBI had issued a consultation paper in May 2021 seeking comments. Once operational, this could potentially lead to more regulated gold-backed savings products, considering the popularity of gold as an investment option among India, keeping aside the need to financialize household savings.