Investing in Gold

There are many different ways to invest in gold and take advantage of the increase in the gold price.  I would like to outline 6 different ways of investing in gold and highlight the advantages and disadvantages of each.

Owning physical gold in the form of gold bullion and bars is one of the most conservative ways of holding and preserving wealth.  Gold bullion can be purchased in various sizes ranging from 1 gram to 100 ounces.  One of the advantages of purchasing gold in this fashion is that you can take possession of the gold and see and touch it.  You can purchase it online using a credit card fairly easily or through a local dealer.  However, there are many disadvantages.  The gold must be stored and insured.  You can use a safe at home or use a safety deposit box.  This storage costs money, and the gold does not earn any interest.  Some would be concerned about confiscation of physical gold as happened in the 1930's.

Many national mints produce gold coins in various sizes ranging from 1/20th ounce to 1 ounce and greater.  These coins have the same advantages as bullion.  In addition, many have numismatic value (coin collecting) and are valued as collector's items.  The coins may actually be worth significantly more than simply the value of the gold itself.  Those worried about confiscation may take heart in the fact that numismatic coins were exempt.  The same disadvantages, namely storage and insurance costs, without offsetting interest income would apply to coins also.

While not readily popular in the United States (with the possible exception of Mr T), gold jewelry is actually a useful way of storing wealth.  Gold jewelry plays a prominent role in Indian culture.  In fact, India is the largest market for gold jewelry in the world and much of the seasonality of the gold price is attributed to the wedding season in India.  The advantages are that gold jewelry can be seen and held.  It is also useful for fashion.  Fashionable pieces can ultimately become collector's items as well.  Risk of theft remains a disadvantage.

Jesse Livermore, the famous stock speculator, at times would borrow against his wife's jewelry to provide himself with a cash stake following a major market loss. 

Recently, the popularity of exchange traded funds has lead to the creation of an exchange traded fund for physical gold (symbol GLD).  The fund actually purchases physical gold on behalf of the investors and stores it in London.  The advantage is that the logistics of physical storage and insurance are managed by the ETF while the cost is part of the management fee.  Another important advantage for the individual is the ease at which buying and selling can occur.  With simply the click of a mouse, an investor can buy or sell a significant exposure to the price of gold.  One of the biggest concerns expressed by some is worry over the actual existence of the physical gold that backs of the ETF.  I will save this one for the conspiracy theorists.

There are precious metal and gold mutual funds which invest in gold bullion and the stocks of companies that mine gold. Again one of the advantages is the ease of which one can quickly gain exposure to the gold price through a brokerage account. But, individual stocks carry management risk. An investor has to examine the company to determine if it is an efficient producer and can control costs. One has to look at reserve levels and replacement of reserves to know that the company won't run out of gold. The location of the mines can play a role in the stock price, and the price of the stock may decline even if the gold price increases. But, an efficiently run company can add any increase in the gold price directly to profits. For the stock investor, that might mean a 20-30% increase in stock price with only a 10% increase in the price of gold.

Gold futures are another way to gain exposure to the gold price.  Again, there is an ease of investment to anyone with a futures account.  Furthermore, with the leverage employed a small increase in the gold price can lead to a substantial increase in one's profits.  However, unlike physical gold and even company stocks, futures have a finite life span.  If the gold price does not move in the direction you think it will within the specified time frame, you can lose essentially your entire investment.

These are several ways that an investor might benefit from an increasing gold price.  I would recommend that everyone have at least some exposure to gold as part of a well diversified investment portfolio.