How to invest in gold
In good times or troubled times, gold offers the reassurance of an investment backed by a physical asset. However, it isn’t practical in most cases to buy gold bars. There are several ways investors can get exposure to gold prices without having to hold physical stocks of the yellow metal, including buying gold mining stocks and exchange-traded funds (ETFs).
Gold is one of the world’s best-known and oldest tokens of value. Its value is down to its relative rarity, the ease with which it could be smelted, moulded and handled, and its resistance to corrosion and deterioration.
While gold is no longer minted as a circulating currency and the gold standard monetary system was abandoned in the 1970s, the yellow metal is still regarded as a hedge against inflation and investors often rush to it when the US dollar is falling, and when geopolitical uncertainty is weighing on sentiment.
Gold remains a scarce commodity and new supply is slow, but demand for it is increasing as emerging market populations become richer. The world’s largest gold consumers, India and China, attach great cultural significance to gold jewellery and bars. These favourable supply and demand dynamics help gold to hold its value over time.
Today gold is trading at around $1200 an ounce. Just before the start of the global financial crisis, gold was priced around $650 an ounce, but by 2012 it had soared to $1900 as investors ran for cover in turbulent markets.
Because it is not correlated to the other major asset classes, gold can be seen as an important addition to a diversified portfolio. But what is the best way to access the commodity? There are a few main routes investors can take.
ETFs, products or notes, offer a cost-efficient, liquid way to get exposure to gold without directly trading the physical commodity. Total expense ratios on ETFs are lower today than ever before as competition among providers intensifies, so they can be excellent value for money.
Some ETFs work by tracking the gold spot price, some are backed by physical gold, while others trade futures contracts on the price of gold. These synthetic ETFs that use derivatives can be complex and come with a set of risks and their performance may deviate from that of the underlying commodity. Still others track the share prices of gold miners. Some ETFs short the gold price, meaning they bet against it and make money when it falls. You will usually be able to choose between a dollar- or sterling-denominated fund, although some dollar-denominated funds will pay out in sterling when you redeem, exposing you to exchange rate risk.
Gold mining stocks
Gold mining stocks can give investors an indirect exposure to the gold price. Generally, when gold prices rise, the share prices of the gold miners also rise. But it’s not quite as simple as that.
A steadily rising gold price would appear to be good news for a company operating in the gold mining industry. But miners’ shares will not move directly in line with the gold price because there are more factors at play. Cost pressures could hit profitability, while a corporate governance scandal or a failed exploration project could drag down the share price.
You can trade shares in gold miners through an online share dealing account. You will need to factor in dealing costs, so choose a provider with competitive prices that gives you access to a wide range of markets. Gold miners can be found on the major markets like the FTSE 100, but also on small-cap indices such as Alternative Investment Market (AIM). These early stage stocks promise high growth potential but are much riskier and harder to trade.
Buying direct equities in the commodities sector is not for the fainthearted, and it’s important you do the necessary due diligence to properly assess the risks in some of these stocks. This is where gaining exposure through a diversified ETF could make more sense.
Many large fund houses offer gold open-ended funds or investment trusts, or you can select a fund run by a specialist provider. The key here is to make sure you know exactly what you are buying.
Some portfolios will include miners of other metals, not just gold, as well as related companies in the industry. Some will own high-risk, early-stage miners, while others will stick to the large-cap names. Choosing a broader commodity fund will give you exposure to other sectors such as oil and gas, property and other metals, offering better diversification but performance much less correlated to the gold spot price.
Remember, active funds cost more, and so you should be sure that the expertise of the manager and their research teams will give you the outperformance you are paying for.
Gold bullion such as coins and bars should be seen as a store of wealth for the long term. Rather than being a place to make a quick buck, owning physical gold can preserve your capital in times of a market downturn. However, gold holdings will provide no income.
If you want to own the physical commodity, you could open an online account with a gold dealer who will keep the gold for you in its vault, and can match you with a buyer when you are ready to sell. You will usually have to factor in the cost of storage, insurance, taxes and dealing costs, plus transport costs if you want to withdraw your gold bars from a vault.