5 Ways to Invest in Gold for Portfolio Diversification
Gold is a physical asset in limited supply. There is only so much gold that exists on this planet.
For that reason, this precious metal is a commodity that many people use as an investment.
In fact:
The spot price for one ounce of gold has been valued at over $1,000 for close to a decade.
But learning how to invest in gold can be daunting.
Figuring out how to invest in gold isn’t necessarily easy or straight forward. Those who want to invest in gold have many options to do so. Each option has benefits and drawbacks.
Here’s what you need to know about the major ways to invest.
Why Buy Gold as an Investment?
Before you start investing in gold, it’s important to understand that you should treat the gold you buy as an investment.
Diversification
When investing, you want to make sure you don’t put all of your money into a single investment. You could be in big trouble financially if that investment, including gold, rapidly decreases in value.
Instead, you should diversify your investments.
This means spreading out your investments over many types of assets. This way, if one decreases in value, others may offset the decrease.
Now:
When investing in gold, you don’t want to put all of your money into different types of gold investments.
If the price of gold decreases dramatically, most types of gold investments could decrease in value together. While the amount of gold is finite, there could be a huge discovery of a massive amount of gold tomorrow.
If you want to invest in gold, you should only allocate a portion of your investments to gold and other gold investments.
Taxes
Whether you buy the physical metal, ETFs, stocks or futures contracts, you have to factor in gains and losses of your investments on your tax return.
Most of the time, capital gains taxes apply but the specific tax rates you pay can vary based on the way you invest.
For instance, physical gold coins are usually considered a collectible which can be taxed at higher capital gains tax rates than mutual funds.
Consult with a tax professional to determine how the gold investments you are considering will be taxed. It’s important to do this before you invest so you can factor in the tax costs to your investment strategy.
1. Buy Physical Gold
If you watch TV, you may have seen commercials offering you the opportunity to buy physical gold as an investment. This is one of the many ways you can invest in gold.
You can buy physical gold in the form of:
- jewelry
- coins
- bullion
- gold bars
Each has its own benefits and drawbacks.
Overall, you should consider the costs that go into each type of physical gold. For instance, gold jewelry is more art than it is an investment.
Jewelry
The time and skill it takes to craft jewelry results in high markups that don’t make it the best investment if you’re looking for pure gold exposure.
Coins
Turning gold into coins makes each coin collectible. While there is still gold value, there may be more value in the particular coin, especially if it is rare and desirable.
That said:
These gold coins cost more than the price of physical gold because a company must craft the gold into a coin. The sellers need to make a profit, too.
Bullion and bars
Even gold bullion and gold bars have creation costs to get the items into their final form.
Companies looking to make a profit must store and sell the physical gold, too.
This results in a markup beyond the spot price of gold.
Pros and Cons
The benefit of owning physical gold is you can hold it in your hands. If you ever need to take your gold and run, you can do so.
The problem with owning physical gold is you need to safeguard and even insure it.
If someone breaks into your home and steals your gold, you’re out of luck unless you paid to insure it.
One way to keep your gold safe is by renting a safe deposit box at a bank and storing your gold there, but it adds another cost.
Finally, there are typically fees you must pay to buy and sell gold. You pay a premium over the spot price of gold due to markups from sellers.
Then, you end up getting less than the price of gold when you sell it to those looking to make a profit from processing the gold in most cases.
2. Physical Gold ETFs
One way to own gold without the hassle of physical ownership is purchasing an exchange-traded fund (ETF) that buys gold on your behalf. One example is SPDR Gold Shares.
These ETFs essentially buy and store gold for the ETF owners.
Because the ETF only owns gold, the price of the ETF tracks the value of the gold it holds.
This can be a great way to invest in gold because you don’t have to worry about storing and insuring physical gold. The ETF takes care of that for you.
As an added benefit, you can buy or sell your shares of the ETF at any time you wish. You don’t have to seek out a buyer like you would with your physical gold.
Unfortunately, the convenience comes at a cost.
Since the ETF has to purchase, store and insure the gold, they have to pass that cost along to those that own the ETF.
3. Gold Mining Stocks
If you’d rather invest in those producing physical gold rather than the asset itself, consider purchasing stocks of gold mining companies.
So:
Rather than owning gold, you own the gold miners.
If the company is growing or discovers an amazing mine, the value of the company could appreciate faster than the commodity itself.
However, owning gold mining stocks comes with risks.
The mines a company develops could produce less gold than expected. The company could be mismanaged resulting in lower profits, too.
Mining companies may have many mines that focus on several metals rather than only gold.
This can give you more exposure to other commodity assets, but it can dilute the mining company’s returns compared to gold at the same time.
4. Gold Mining Mutual Funds or ETFs
Just like you can own mutual funds or ETFs of many companies, you can own mutual funds or ETFs focused on gold mining companies.
If you think about it, owning multiple gold mining companies reduces your risk.
If one particular mining company’s stock greatly decreases in value, you have other mining companies that may be doing better.
Even so, you’ll still be invested heavily in one area, mining companies.
If gold prices decrease drastically or the mining sector decreases in value as a whole, it may not matter that you own many mining companies through an ETF or mutual fund.
Additionally, owning multiple mining companies increases the number of variables you’re exposed to.
Each company may mine several different metals, which can reduce the relationship of the investment’s price to the price of physical gold.
As always:
When you own an ETF or mutual fund, you’ll also have to pay fees for the investment to be managed.
You could even have to pay fees for buying or selling your investments depending on where you invest and the specific investment.
5. Gold Futures Contracts
Gold futures contracts are a more complex investment than most people should consider.
Investing in gold futures is extremely risky for beginner investors and should not be taken lightly.
Essentially:
These contracts allow you to buy the opportunity to purchase a set amount of gold in the future at a set price. As the price of gold changes, the value of the contract changes.
There are many problems with everyday investors buying gold contracts.
First, you usually don’t pay the full price of the contract when you buy it. You only pay a portion. This is called leveraged investing.
If the price goes up, you could end up making a lot of money. Unfortunately, if the price goes down you may have to pay additional money above what you invested.
These contracts are also based on specific dates.
That means you can’t wait and hold the contracts long term if your contract falls in value with the hope it will eventually rebound. Instead, you have to make up the difference.
Only You Can Decide How to Invest in Gold
Only you can decide how to invest in gold for your situation.
Before you invest, make sure you understand all of the risks and factors involved.
This means understanding how you’ll be taxed when you decide to sell your investments.
You also have to learn what could make the price of your investment increase or decrease as well as how much the price could change.
If you’re unsure how to move forward, consider consulting a fee-only financial advisor that can take a look at your specific financial situation.
They can recommend an investment strategy that fits your needs that may or may not include gold.
