The discount with a deadline · Market Vidyalaya

You want to know whether gold has broken out, so you open the chart of the gold you actually own: a Sovereign gold bond tranche bought years ago, sitting in the same demat account as everything else. Over the quarter the domestic gold rate is up about nine per cent and the tranche is up about six. Neither figure is a misprint and neither chart is faulty. The three points that went missing are the gap between the traded price and the value of the gram widening by about three points over the quarter — and that gap, not the difference in returns, is the object here. It is measurable to the paisa on any day you care to look, and it has a date on which it must be zero.

The bond is denominated in grams. Each unit is a gram of gold, on which the government pays interest at two and a half per cent a year on the amount the tranche was issued at, and at the end of an eight-year term it repays the rupee value of that gram, computed by a formula written into the issue terms — an average of published domestic rates for gold of standard purity over a few business days near redemption. So the value of a unit is not a matter of opinion. It is the number of grams multiplied by the domestic gold price. What the exchange shows you is something else entirely: whatever the last person to trade one paid.

Think of it like this

The voucher your cousin bought at a discount

You hold a ₹5,000 gift voucher for a shop, valid until December, and you do not want to shop there. Your cousin takes it off you for ₹4,700. The ₹300 is not a claim that the shop is in trouble or that the voucher is fake — it is the price of the wait, and of the fact that you needed a buyer today and there is exactly one. Two things are certain about that ₹300. Nobody can manufacture new vouchers to trade against yours, so the gap does not get competed away. And it cannot survive December, because at the counter the voucher is worth ₹5,000.

In the market

That is a closed tranche of a gold bond. The gap between what it trades at and the value of the gold it is denominated in is payment for waiting in a market with very few buyers, and it has a date on which it must be zero. Both halves matter, and the second is the half that makes it a different object from every other discount in this track.

Why nobody closes the gap

An earlier lesson in this track worked through the exchange-traded fund case: the traded price is held to the value of the basket because an Authorised participant can create units against the basket when the price runs above it and redeem them when it falls below, in creation-unit blocks. That is what closes a fund’s premium in a session. Not one part of that mechanism exists here.

Two gaps between a price and a value, with completely different lifespans

An ETF trading away from its basket

Units can be created and redeemed against the underlying, so the gap is a trade somebody is set up to do
A participant with both legs available closes it in hours, and the profit from doing so is what enforces the link
The gap is therefore usually small and usually short, and a large one is evidence that the mechanism is temporarily unavailable
It has no deadline, because the fund does not end — an unarbitraged premium can persist for as long as creation stays blocked

A closed tranche of a gold bond

The tranche is shut. Nobody can create new units of it, and it cannot be handed back except through the scheduled routes in its own terms
There is no participant, no basket delivery and no arbitrage. The only party who can close the gap is a holder prepared to wait for the redemption date
So it can sit at several per cent away from value for years, and its size is a statement about liquidity and patience rather than about gold
It does have a deadline. On the redemption date the formula pays the gold value, so the gap goes to zero on a date fixed at issue

The gap has a sign, and nothing in the mechanism fixes which

Everything above is written about a discount because that is the usual case in a market this thin, but the absence of an arbitrageur cuts both ways. If holders will not sell and buyers want the instrument — a scheme closed to new issuance, a redemption route worth more to some holders than a sale — a tranche can trade above the value of the grams it is denominated in, and nobody can manufacture units to bring it back down. The deadline then works against the buyer rather than for them: the redemption formula pays the gram value, so a premium paid over that value is given back on the redemption date exactly as reliably as a discount is collected. So read the ratio before assuming its direction. Below one, you are being paid to wait. Above one, you are paying for the privilege, and the same contract takes it off you. This is the mirror of the bond in this module’s first lesson, where the drift also took its sign from which side of the anchor the price was sitting on.

So chart the gap, not the price

The price chart of a gold bond is, to a first approximation, the gold chart. Almost all of its movement is the underlying, which you can read better on the underlying. What is specific to the instrument is the ratio between the traded price and the value of the grams — and that is a short series to build, has a boundary at zero, and is the only part of this chart you cannot get anywhere else.

Worked example

What the three per cent is worth, and what it is not

A tranche with two years and four months to run, issued at about ₹3,000 a gram

The value of one unit todayOne gram, at the published domestic rate for gold of standard purity. This is the number the redemption formula will be applied to, on the date it applies₹7,150

What it last traded at on the exchangeA discount of 3.4% to the value of the gram — 6,905 ÷ 7,150 is 0.966₹6,905

The interest, on the issue amountThe rate applies to what the tranche was issued at, never to what it trades at now. This is the single most misread feature of the instrument2.5% of about ₹3,000 = about ₹75 a year

That interest as a Current yield on today’s priceNot 2.5%. The gold price has more than doubled since issue and the rupee coupon has not moved, so the running income has more than halved as a percentage₹75 ÷ ₹6,905 = about 1.1%

If gold is unchanged on the redemption dateAbout 3.5% on the ₹6,905 paid, arriving not because gold moved but because the formula pays the gram value and the discount cannot survive itThe gap closes: ₹7,150 − ₹6,905 = ₹245

Plus the interest across the remaining termAbout 2.5% more on the price paid₹75 × 2.33 = about ₹175

Total, with gold flatWhich is roughly 2.6% a year, and none of it is a view about gold₹420 on ₹6,905 — about 6.1%

What gold itself does over the same periodA ten per cent move in gold is worth more than the whole of the 6.1% above, and it can arrive in a month rather than over two years. The discount is a small, knowable term sitting on top of a large, unknowable oneUnknown, and larger

The last two lines are the honest shape of it. Everything specific to this instrument amounts to a couple of per cent a year and can be computed today; everything that will actually decide the outcome is the gold price, which nothing here forecasts. That is a description of an instrument’s arithmetic and not a suggestion about it, and three risks belong in the same paragraph. The discount can widen before it closes, and widen a great deal in a thin market. You may not be able to sell at any sensible price on a day you want to, because there may be no bid. And the deadline is years away, so the interim price is whatever a nearly empty order book says it is.

Four reasons "the gold bond chart" is not one chart

There are dozens of tranches, each a separate security. Each has its own symbol, its own maturity date, its own issue amount and therefore its own rupee coupon, and its own order book. Whichever one your platform shows first is the one you will end up treating as the instrument, and its discount tells you very little about the others.
Most of them barely trade. Days pass with no transaction, so the figure on your screen is a Stale price carried over from an earlier session, and a percentage change computed against it is measuring the age of the print as much as anything else. The bar where nothing traded is dealt with in its own lesson in this track, and it applies here more than almost anywhere.
The anchor is itself a composite. The domestic gold rate is the international price, converted at the rupee, plus import duty and local premium. So the instrument is not a clean bet on the dollar gold price: a move in the rupee shows up in it, and so does a change in duty. Two of those three inputs have nothing to do with gold.
There is a second, earlier deadline. The terms provide a scheduled early-redemption route from the fifth year, on interest payment dates, at the formula value. That gives the discount an earlier date on which it can be collected without a buyer being found — and because those dates differ by tranche, the calendar is per security rather than for the instrument as a class.

Careful

One more asymmetry, and it is the reason a small discount is sticky rather than an oversight. The two ways out of this instrument are not treated the same way for an individual: redemption under the scheme’s own terms and a sale in the secondary market sit in different places in the tax system. A holder who intends to reach the redemption date is therefore comparing a different pair of numbers from a holder who wants cash this week, and both can be behaving rationally while refusing each other’s price. The exact treatment — including for units bought from somebody else in the secondary market — is a thing to settle against the current rules rather than to assume from a summary, including this one. What survives any rule change is the mechanism: when two exits are taxed differently, the gap between them can persist, because arbitraging it requires somebody for whom both exits are the same.

Building the only series that is specific to the instrument

1
Write down the value of one unit each day
Grams held per unit — one — multiplied by the published domestic rate for gold of standard purity. This is a number you look up, not one you derive from the chart.
2
Divide the traded price by it
A figure of 0.966 is a 3.4% discount; anything above 1.000 is a premium, and the arithmetic runs the other way. Recording it weekly is enough; the series moves slowly, and its whole information content is where it sits relative to where it has been.
3
Check whether today’s price is a print or a memory
If the security did not trade today, the ratio you just computed pairs a fresh gold rate with a stale price and the gap is partly the calendar. Note the date of the last trade next to the number, every time.
4
Keep the tranches apart
One row per security, with its redemption date and its rupee coupon beside it. The comparison worth making is between tranches after adjusting for those two things — and once they are written down, most of the apparent anomalies between tranches stop being anomalies.
5
Read the gold chart on gold
For direction, trend, levels and volatility, use the underlying rate or a liquid instrument on it. The bond’s own chart is thin, gappy and drawn from few decisions, and everything it can tell you about gold is available in better form somewhere else.

Check yourself

A gold bond tranche trades about 3% below the value of the gold it is denominated in, and has done for months. Why has no arbitrageur closed the gap?

Simple bhasha mein

Bhai ne voucher sasta le liya

Aapke paas ek dukaan ka ₹5,000 ka gift voucher hai, December tak chalega, aur us dukaan se aapko kuch lena nahi. Cousin ₹4,700 mein le leta hai. Woh ₹300 dukaan ke baare mein koi shikayat nahi hai — woh intezaar ka daam hai, aur is baat ka ki aaj kharidaar sirf ek hai. Do cheezein pakki hain: koi naye voucher chhaap ke aapke voucher ke saamne nahi bech sakta, toh gap competition se khatam nahi hota; aur December ke baad gap ho hi nahi sakta, kyunki counter pe voucher ₹5,000 ka hai. Gold bond ki band tranche bilkul yahi hai. Ginti: aaj ek gram ka bhaav ₹7,150, exchange pe tranche ka last trade ₹6,905 — discount 3.4% (6,905 ÷ 7,150 = 0.966). Interest 2.5% hai par issue ke daam pe, aaj ke daam pe nahi: tranche ₹3,000 pe aayi thi, toh ₹75 saal ka — aaj ke ₹6,905 pe woh 1.1% hai, 2.5% nahi. Sona jahan hai wahin rahe toh redemption pe formula gram ka bhaav deta hai: ₹245 (3.5%) + ₹175 interest (2.33 saal × ₹75) = ₹420 on ₹6,905 = 6.1%, yaani saalana 2.6%. Aur imaandari se aakhri line: sona sirf 10% hil jaaye toh woh is poori 6.1% ki ginti se bhi bada hai, aur woh ek maheene mein ho sakta hai — jabki yeh 6.1% do saal mein aata hai. Sone ko yeh lesson predict nahi karta. Do tranche kabhi ek jaisi nahi: ₹3,000 pe aayi tranche ₹75 deti hai, ₹6,000 pe aayi ₹150 — dono ₹6,900 pe trade karein toh 1.1% ke saamne 2.2%, wahi sona, wahi issuer. Isiliye chart daam ka nahi, ratio ka banao — daam ÷ (gram × sone ka bhaav) — aur saath mein last trade ki taareekh likho, kyunki patli tranche ka screen pe daam kayi din purana ho sakta hai.

What to remember

A gold bond’s value is grams multiplied by the domestic gold price; its traded price is whatever a very thin order book last said.
No creation or redemption mechanism exists for a closed tranche, so the gap between the two has no arbitrageur — and a redemption formula on a fixed date means it has a deadline anyway, whichever side of value the price is sitting on.
The two and a half per cent is paid on the amount the tranche was issued at, so an old tranche’s current yield on today’s price can be half a newer one’s.
The anchor is a composite of the international price, the rupee and import duty, which is why a duty change can produce a large domestic candle with no gold-market explanation.
Chart the ratio of price to value, keep the tranches apart, and read gold itself on a series that actually trades.

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