How To Invest In Gold

Money / Investing

How To Invest In Gold

Looking to add some gold to your investment portfolio? Here are the best ways to invest in the precious metal.

Written by Ravinder Kapur on 10 October 2017

Buying gold can serve several purposes. It can be a hedge against inflation and, if you get your timing right, it can provide you with a very high return on your investment. During the two-year period from August 2009 to August 2011, the price of gold almost doubled from US$955 to US$1,813 per ounce. Of course, you may not find it possible to time the market perfectly, and to enter and exit at exactly the correct moments.

But making gold a part of your investment portfolio can help in another very important way. It provides you with an opportunity to diversify and lower the level of risk that you are exposed to. The distinctive qualities of gold as an asset class make it especially effective as a diversification tool.

When the stock market goes down, you can expect the price of gold to rise. Similarly, at times of political and economic uncertainty, investors often flock to gold as it is widely seen as a “safe haven” asset. The increase in demand leads to higher prices and can help stabilise the value of your portfolio during tumultuous times in the market.

Many financial advisors recommend that investors maintain about 5% to 10% of their portfolio in gold. Here we explore the different ways in which you can make an investment in this precious metal.

Owning physical gold

The traditional approach is the best in many respects. You can buy gold bullion or coins. To be classified as bullion, the gold must be at least 99.5% pure. It is shaped as bars or ingots, making it easier to transport and store.

Gold coins are a good option as they come in standard sizes and are convenient to carry. Additionally, you can sell them easily when you need the cash.

Here are some of the popular gold coins:

Buying physical gold, however, can present some problems. To avoid these pitfalls, you should ensure that you are dealing with a reputable supplier. It is advisable to steer clear of dealers who offer to hold the gold on your behalf. Similarly, stay away from “bargains” and “deals” available from unknown dealers on the internet.

One precaution that you can take is to enquire whether the dealer from whom you are making a purchase offers a buyback facility. What are the charges for this and how much will you lose in the transaction? Gold bars with lower weights will attract higher charges. You may have to pay as much as 4% to 5% of the value of your gold to sell it.

Gold ETFs

However, buying physical gold and storing it is not for everyone. To do this, you would need to incur costs to rent a safe deposit box at a bank as well as on insurance. Keeping the gold at home is probably not a good idea, as there’s a possibility that it may get stolen.

A gold exchange-traded fund (ETF) could be a better option. This is essentially a commodity ETF that uses the money that you invest to buy gold. The value of your investment varies with the spot price of gold.

It is important to note that if you invest in a gold ETF, at no point in time will you actually receive any physical gold. You are investing in a trust that holds gold bullion. When you liquidate your holding in the ETF, you will receive the cash equivalent of your investment.

The largest gold ETF is SPDR Gold Shares. It is traded on the New York Stock Exchange as well as the stock exchanges of Singapore, Tokyo, Hong Kong, and Mexico. It currently holds about 28 million ounces of gold valued at almost US$36 billion.

A gold ETF is the best way to get exposure to the metal without having to deal with the hassle of buying and storing the actual commodity. This convenience, however, comes at a cost. The annual expense ratio of SPDR Gold Shares is 0.40%. However, this is a reasonable price to pay considering that you get the ability to invest in gold without having to face the problems that accompany buying and storing gold in its physical form.

Gold ETNs

A gold exchange-traded note (ETN) is similar to a gold ETF as both are linked to the price of the metal. But while the ETF is backed by physical gold, an ETN is a derivative instrument. It tracks the price of gold, but does not actually own any.

The issuer promises to pay you an amount that is based on the market price on the date of sale. If the issuer of the ETN becomes bankrupt, you could lose money. This is an additional risk that you have to bear if you decide to invest in a gold ETN.

Why would anyone invest in an instrument that is not backed by the physical asset? An ETN offers several options that an ETF does not. For example, you could purchase an ETN that allows you to profit from a decline in the price of gold. There are also leveraged ETNs. A 1% rise in price could result in a 2% increase in the value of your investment.

Is an ETN a good way to get exposure to gold? For those investors who want to leverage their investments, it is a good option. But ETNs can carry a greater level of risk, and if your primary objective is to diversify your portfolio, you should stick to physical gold or ETFs.

Shares of gold mining companies

Another way of getting exposure to gold is to buy the shares of companies that mine and produce the metal. There are tremendous gains to be made if the company that you have invested in discovers new reserves. Additionally, a rise in gold prices can boost the company’s profits by a significant margin.

Consider a gold mining company that has a cost of production of US$800 per ounce. If gold trades at US$1,250, it makes a profit of US$450 for every ounce that it produces. But if spot prices rise by, say, 5% (US$62.50), the company’s profits will increase by almost 14%. Instead of making US$450 on every ounce, it will make US$512.5, an increase of 13.9%.

However, if gold prices drop, the value of your investment will fall even faster. Investing in a gold mining company is essentially a leveraged play on the price of gold. It is a good option for those investors who are willing to take on a higher degree of risk.

The bottom line

For most investors, buying gold coins or bullion, or investing in an ETF, is the best possible way to diversify their portfolio.

But those investors looking to profit from fluctuating gold prices can consider ETNs or mining company shares. These investments can give much greater returns, but they carry a far higher level of risk.


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