Gold Price Paradox: A $13 billion naked short on yellow metal in India that loves glitter

That something, the mandarins reckoned, could only be a government-backed investment option that allowed investors to earn some cash while speculating on the price of their best-loved commodity — without actually having to buy it.

But the officials forgot a cardinal rule. If a trade looks too good to be true, it probably is.
As it’s becoming painfully evident now, India’s 10-year-old sovereign gold bond program is just a $13 billion naked short position for the government, an albatross around its neck at a time when bullion prices have gone parabolic and show no sign of subsiding. It’s the taxpayers who are on the hook for paying that money to bondholders.

This wasn’t how the program was supposed to run. The special debt, it was decided, would pay a 2.75% coupon (reduced later to 2.5%), and the investment itself would be measured in grams of gold. Upon redemption eight years later, investors would be given the prevailing market value of the metal in rupee terms.

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At least on paper, it all made sense. With the euro zone back from the brink of a messy breakup, the demand for safe havens was on its way down globally. Suppose someone bought 1 gram worth of the metal-linked bonds in November 2015 for a little over 2,500 rupees, which came to about $38 in those days. Even if New Delhi had to redeem the notes for 50% more — 3,750 rupees — the borrowing cost would still be less than the near-8% yield on regular government debt.

There were other advantages. To the extent people would be drawn to the financial product, they would be less keen to buy the physical asset, saving India some of the $30 billion in hard currency that it had spent annually over the previous decade on imports of the precious metal.

Howe