CHAPTER 3

THEORETICAL FRAMEWORK
3.1 INTRODUCTION

Sovereign Gold Bonds (SGBs) were introduced by the Government of India in November 2015
as an alternative to physical gold. The move was part of the government's strategy to reduce
India’s dependence on gold imports, which was a major contributor to the country's trade deficit.
SGBs were issued by the Reserve Bank of India (RBI) on behalf of the Government of India and
are denominated in grams of gold.

The introduction of SGBs aimed at promoting financial savings in gold without the need for
storing physical gold, thereby addressing issues such as security, purity, and cost of transactions
involved in gold purchases. The main features of SGBs include interest payments (which is paid
every six months), a fixed tenure (usually 8 years), and the opportunity to redeem the bonds for
cash at the prevailing market price of gold at the time of maturity.

The initiative was launched under the ‘Gold Monetization Scheme’ to help investors and the
government reap the benefits of gold investment, while reducing the country’s reliance on gold
imports. The bonds were designed to cater to investors who wanted to invest in gold but were
looking for a safer, more secure, and more rewarding option.

The introduction of Sovereign Gold Bonds also coincided with the government’s goal of
formalizing the gold market and encouraging a shift from physical gold to financial instruments.
This would also help in the development of a more efficient and transparent gold market.

Since their launch, the scheme has undergone several modifications, including changes in the
interest rate and introduction of additional redemption options. Despite some challenges in the
early phases, SGBs have gained traction among investors due to their safety and the interest
income provided, making them a valuable investment vehicle in the gold market.

3.2 BACKGROUND OF THE STUDY

The increasing demand for gold in India, particularly among retail investors, has significant
economic implications, including high import bills and trade deficits. In response to these
challenges, the Government of India introduced the Sovereign Gold Bond (SGB) scheme in 2015
as a modern alternative to physical gold investment. SGBs are designed to provide investors with
a secure and convenient way to invest in gold while simultaneously reducing the reliance on
physical gold, which often poses risks related to storage and security. Malappuram district,
located in the southern state of Kerala, is known for its rich cultural heritage and strong affinity
for gold, making it an ideal region to study the awareness and perception of SGBs among retail
investors.

Despite the potential benefits of SGBs, including fixed returns, tax advantages, and government
backing, there remains a significant gap in awareness and understanding of these bonds among
retail investors. Factors such as financial literacy, access to information, and cultural attitudes
towards gold investment can influence the perception and adoption of SGBs in the region. This
study aims to investigate the level of awareness and perception of Sovereign Gold Bonds among
retail investors in Malappuram district. By examining the factors that influence investor behavior
and attitudes towards SGBs, the research seeks to provide insights that can inform policymakers,
financial institutions, and educational initiatives aimed at promoting SGBs as a viable investment
option. Understanding the local context and investor sentiment is crucial for enhancing the
adoption of SGBs and contributing to a more robust financial ecosystem in the region.

3.3 IMPORTANCE

1. Investment Diversification: SGBs provide investors with an opportunity to diversify their

portfolios. By including gold, which often acts as a hedge against inflation and currency
fluctuations, investors can reduce overall risk and enhance returns.

2. Reduced Physical Gold Demand: The introduction of SGBs aims to curb the excessive
demand for physical gold, which has historically led to high import bills and trade deficits in
countries like India. By offering a secure and convenient alternative, SGBs help stabilize the
economy.

3. Safety and Security: SGBs are backed by the government, making them a secure investment
option. Unlike physical gold, which can be susceptible to theft or loss, SGBs eliminate the risks
associated with storing and safeguarding physical assets.

4. Fixed Returns: SGBs offer a fixed interest rate, providing investors with a predictable income
stream in addition to potential capital appreciation from rising gold prices. This combination of
fixed returns and price appreciation makes SGBs an attractive investment.

5. Tax Benefits: SGBs come with certain tax advantages, such as exemption from capital gains
tax if held until maturity. This feature enhances their appeal, as investors can potentially retain
more of their returns.

6. Liquidity: SGBs can be traded on stock exchanges after a specified lock-in period, providing
liquidity to investors. This feature allows investors to sell their bonds in the secondary market if
they need to access funds before maturity.

7. Encouragement of Financial Savings: By promoting SGBs, the government encourages

individuals to invest in financial instruments rather than hoarding physical gold. This shift can
lead to increased financial literacy and a more robust savings culture.
8. Support for Economic Stability: By reducing the reliance on physical gold imports, SGBs
contribute to the overall economic stability of the country. Lower gold imports can help improve
the balance of payments and strengthen the national currency.

9. Accessibility: SGBs are available for investment in small denominations, making them
accessible to a wide range of investors, including those with limited capital. This inclusivity
promotes broader participation in the financial markets.

10. Promotion of Digital Transactions: The issuance and trading of SGBs can encourage the
adoption of digital financial services, as investors can purchase and manage their bonds through
online platforms, aligning with the broader trend of digitalization in finance.

3.4 INFLUENCING FACTORS

1. Gold Prices: The most significant factor affecting SGBs is the price of gold in the international
market. Fluctuations in gold prices directly impact the value of SGBs, as they are linked to the
prevailing market rate of gold. Rising gold prices can enhance the attractiveness of SGBs, while
falling prices may deter investors.

2. Interest Rates: The prevailing interest rates in the economy can influence the attractiveness of
SGBs. When interest rates are high, other fixed-income investments may offer better returns,
making SGBs less appealing. Conversely, lower interest rates can make SGBs more attractive as
they provide a fixed return in a low-yield environment.
3. Inflation: Gold is often viewed as a hedge against inflation. When inflation rates rise, investors
may flock to gold and, by extension, SGBs, to preserve their purchasing power. High inflation
can lead to increased demand for SGBs as a protective measure.

4. Economic Stability: The overall economic environment, including factors such as GDP
growth, employment rates, and consumer confidence, can influence investor sentiment towards
SGBs. In times of economic uncertainty or instability, investors may prefer the safety of gold
investments.

5. Government Policies: Government initiatives and policies related to gold imports, taxation,
and investment incentives can significantly impact the demand for SGBs. Favorable policies that
promote SGBs can enhance their attractiveness, while restrictive measures may hinder their
appeal.

6. Market Sentiment: Investor sentiment and market trends can also play a crucial role in the
demand for SGBs. Positive sentiment towards gold as a safe-haven asset during geopolitical
tensions or financial crises can lead to increased interest in SGBs.

7. Liquidity and Trading Conditions: The ability to trade SGBs on stock exchanges after the
lock-in period affects their liquidity. Favorable trading conditions, such as low transaction costs
and high trading volumes, can enhance investor interest in SGBs.
8. Awareness and Education: The level of awareness and understanding of SGBs among
potential investors can influence their adoption. Government campaigns and financial literacy
programs that educate investors about the benefits and features of SGBs can drive demand.

9. Cultural Factors: In countries like India, cultural attitudes towards gold can significantly
impact investment behavior. Gold is often seen as a traditional asset, and changes in cultural
perceptions can influence the demand for both physical gold and SGBs.

10. Global Economic Factors: International economic conditions, such as changes in currency
values, global interest rates, and economic policies of major economies, can also affect gold
prices and, consequently, the attractiveness of SGBs.

3.5 CONCLUSION

In conclusion, Sovereign Gold Bonds (SGBs) represent a significant innovation in the Indian
investment landscape, offering a modern alternative to traditional physical gold. By addressing
the challenges associated with gold investment, such as security, storage, and high import costs,
SGBs provide a secure and convenient option for investors. The benefits of SGBs, including
fixed returns, tax advantages, and government backing, make them an attractive investment
vehicle, particularly in a country with a deep-rooted cultural affinity for gold. However, the
success of SGBs hinges on increasing awareness and understanding among retail investors,
especially in regions like Malappuram, where traditional gold investment practices are prevalent.

To enhance the adoption of SGBs, it is crucial for policymakers, financial institutions, and
educational initiatives to focus on improving financial literacy and promoting the advantages of
these bonds. By addressing the influencing factors such as gold prices, interest rates, and cultural
attitudes, stakeholders can create a more conducive environment for SGB investment.
Ultimately, fostering a shift from physical gold to financial instruments like SGBs can contribute
to a more robust financial ecosystem, reduce the country's reliance on gold imports, and support
overall economic stability.