Is It A Good Idea To Buy Gold As An Investment?

Inflation is on the rise and when that’s happening, you often see a rise in the number of infomercials talking about how you should buy gold to protect yourself if paper money ever becomes worthless. While those doomsday claims might be hyperbole, the idea of gold as an investment isn’t a bad idea in the right situation.

In this article, we’ll look at the investment value of gold, whether now is the right time to get in before the next gold rush as well as the pros and cons.

A Guide To Buying Gold As An Investment

Gold is a physical commodity. Physical commodities are resources with a value determined by the amount of the resource that’s available compared to the market demand for the item. This isn’t California in 1849 when new pockets of gold are being discovered every day – there is a finite supply available.

In general, there are certain market conditions that make people consider gold as an investment. At other times, they may decide gold isn’t the way to go. Because you’re at the mercy of the market, gold can be a complicated investment.

For starters, it fluctuates with market demand as many other assets do. But the other issue is that depending on how you invest, gold can be harder to transport for liquidation. We’ll get into how to mitigate some of these issues later on.

How To Invest In Physical Gold

If you’re looking to invest in physical gold, you have to find someone willing to sell you their gold. Depending on the type of gold you’re looking to buy, this may be hard for a couple of reasons: you have to verify that the gold is authentic, and you have to be able to take possession of it. Jewelry and coins are one thing. Gold bars could be quite another.

There is also a problem that having gold can make you a target, so you’ll want to make sure it’s kept in a place that’s physically secure. You may find yourself having to pay for storage and insurance as protection from loss in the event of damage or theft.

You also have to worry about markup, depending upon the type of gold you’re buying. There are essentially three types of gold that you can trade in.

• Jewelry: If you invest in jewelry, this has the advantage of being easy to transport. On the other hand, you’ll be dealing with markup because jewelers put money into the maintaining the asset’s clarity and beauty, and need to make a profit. And in order for it to go up in value, you have to hope that someone starts wearing jewelry of that style to drive up demand beyond the value of whatever is in the jewelry itself.
• Coin collecting: Coins are also highly transportable, but in this case, you and your fellow numismatists (fancy word for coin collector) are typically more interested in the collectible value of the coin than its gold content. Like many collectibles and memorabilia, the value of a rare coin in pristine condition is more than its face value.
• Gold bullion: Bullion may be sold in coins for convenience of transport, but it can also just as easily be sold in bars. Unlike coins or jewelry, there’s no aesthetic value to bullion. You’re trading on the value of the precious metals themselves. If you were to give it to a gold broker, you would be paid the spot price for the weight of your gold.

How To Invest In Gold By Purchasing Stocks

It’s possible to buy stock in companies that mine gold, refine it for other uses and trade it. This can allow you to get into the space without the storage costs and insurance premiums that may come with trading in physical gold.

Gold stocks are like any other stock in that they are subject to fluctuations based on company performance and market sentiment. When things are good, there’s a chance that you may make more money by investing in stock than you would in actual gold because people feel positively about the moves the company is making for the future.

On the other hand, investor sentiment can turn for reasons unrelated to actual production or the company can have a down quarter and the stock price can drop, jeopardizing your investment.

There are numerous gold stocks you can trade including Barrick Gold Corporation and Franco-Nevada Corporation, among many others. When evaluating gold stocks, you want to look at things like price-to-earnings ratio and market cap as you would with any other stock.

However, because you’re also dealing with companies that are mining a limited resource, you also want to look at their level of production and the number of years of estimated mining life they have at their sites. Another strategy is to invest in companies that are a bit more diversified. For example, you might find a company that mines gold, silver and platinum so that when the market is down for one, the other two can hopefully make up for losses.

How To Invest In Gold ETFs And Mutual Funds

Other options for gold investment are exchange-traded funds (ETFs) and mutual funds. These two are similar, so let’s briefly go over the difference.

ETFs are funds that you can buy in a stock exchange which have investments in companies. The percentage of any one company held in an ETF may vary, but it can track with the market cap of the company, for example.

Mutual funds are similar to ETFs in that they represent an investment in several different companies. The difference is that mutual funds are actively managed. There’s a fund manager buying and selling stocks in order to try to gain the most effective return on investment for investors. This contrasts with an ETF which is just a composite of the performance of the companies within the fund.

Getting into gold through an ETF or a mutual fund prevents you from having to deal with the hassles of investing in physical gold. You also don’t have to deal with picking individual stocks, which may provide a beginner investor some comfort.

It is important to note that as with the stocks we just discussed in the previous section, the performance of the ETFs and mutual funds may not always track with the price of gold itself. This is more about the performance of the companies within the funds. This can be good or bad depending on whether particular funds are outperforming or underperforming compared to the rest of the sector.

When investing in funds, look at what the underlying investment is based on so you know what you’re getting into. As an example, SPDR Gold Shares is benchmarked against gold bullion. This means, although not directly related, these shares track closely with the price of gold. For those who want to get directly involved with the day-to-day movements of gold, there’s the Aberdeen Standard Physical Gold Shares ETF. This fund trades physical gold bullion.

Is Now A Good Time To Invest In Gold?

Gold has historically served as a hedge investment that will hold value while other types of assets aren’t performing as well. The reason for this has to do with gold being isolated from the rest of the market because it has an intrinsic value not tied to anything else.

"The value of gold lies in the fact that it is uncorrelated to pretty much all of the factors influencing the value of other investments," says Felix Bertram, owner and investment advisor representative for Bertram Solutions in Kirkland, Washington. "Holding gold can, indeed, dampen an investment portfolio's volatility."

Bertram, though, recommends that investors be careful. As he says, the price of gold can be volatile. At the same time, trends in gold prices often last for a decade or longer, so if the value of gold falls, it could remain depressed for several years.

Because of this, Bertram recommends investors allocate only a small portion of their investment dollars to gold. That said, you can diversify your portfolio by including gold in a plan that also includes stocks and bonds.

When Is The Best Time To Invest In Gold?

Gold becomes more valuable, historically, when the stock market is performing poorly. A good example is the period between November of 2007 and the end of May of 2009. During this time, the S&P 500 index dropped by 36%. The price of gold, though, rose 25% during this same stretch.

That’s an example of why gold can be a solid investment: It has historically done well when the stock market is struggling. Gold, then, can offer a bit of protection for investors worried about the swings of the stock market.

Terry Hanlon, president of Addison, Texas-based Dillon Gage, a company that trades precious metals, says gold proves its worth during tougher economic times.

"As we saw in the last recession, physical gold proved to be a rewarding investment and nearly tripled in value while stock markets grew at a slower rate and real estate mostly sagged," Hanlon says.

If you lived on either U.S. coast during that time, Hanlon says you were better off holding gold, its value exceeding $1,800 an ounce, than you were owning a second or third home.

Hanlon says that physical gold is one of the few financial assets that doesn’t rely on an issuer's promise to pay. That's one of the reasons why it’s considered a safe haven during economic downturns.

The Pros And Cons Of Buying Gold As An Investment

Gold, like any investment, has its benefits and drawbacks. Let's run through them before you make any decisions.

Before undertaking any investments, make sure you understand the overall picture of your portfolio as well as your own tolerance for risk. If you’re unsure of what you should do, feel free to consult a financial advisor.

The Pros Of Investing In Gold

• Long-term value: Gold has had value dating back thousands of years. Because it’s a precious metal, it has intrinsic qualities that make it worth holding and put it beyond typical market movements. The appetite may go up or down, but the value of gold has a floor in a way that trading in the stocks of companies don’t. Companies and entire industries come and go. Gold sticks around.
• High liquidity: Because of the long-term value and its usefulness as a hedge, there will always be investors who want gold. People have different opinions about when the market is going to take a downturn. Because of this, you'll always be able to offload it to someone either to fully or partially divest or to provide resources during a personal or financial emergency.
• Portfolio diversification: Gold is another asset you can use in your portfolio to reduce exposure to any one sector or set of financial instruments. As we’ve talked about, it tends to perform better when the stock market isn’t doing as well. Because of this, it can limit losses.

The Cons Of Investing In Gold

• Need substantial capital: The price of gold can run thousands of dollars per ounce. Given that, depending on how you invest in gold, you may need a ton of capital to start with. In contrast, there are very few stocks where having a share or two makes that big of a dent in your pocketbook.
• Additional expenses: There are also expenses for storage and insurance premiums to protect against losses if you’re buying physical gold. If you’re buying through a mutual fund, there are management fees associated with the maintenance of the fund.
• Speculative nature of gold’s value: Although gold has a long-term value, that value is tied to demand from other buyers, which goes up or down depending on investor appetite and economic conditions. Unlike bonds which provide a yield or stocks that pay dividends, there is no guaranteed rate of return on gold. A lot of it comes down to timing.

The Bottom Line: Carefully Consider Investing In Gold

Having investment in gold doesn't necessarily mean you have a vault full of heavy gold bars, although that’s one way to do it. You can also collect jewelry and coins. If you don’t want to deal in the physical realm, you can also invest in individual gold stocks, ETFs and mutual funds.

Gold has a long-term value and tends to be easy to sell if you need to. On the downside, you may need quite a bit of money get started. There are also additional expenses for the storage and insurance on physical gold. Finally, the value of gold can be very volatile depending on conditions in the market.

One of the virtues of gold investment is that it tends to have independent value in a way that other stocks and commodities don’t. Companies rise and fall, but gold is forever. That said, it should only be considered as part of a broader investment strategy that includes other assets such as stocks and bonds.

Before moving forward with any particular investment strategy, we encourage you to talk out your situation with a financial advisor. In the meantime, learn more about investing and building your portfolio on Rocket HQ^SM.