Understanding How To Invest In Gold

Despite the current pullback in gold prices, there is still every reason to make gold part of your investment portfolio. Gold will always be the ultimate insurance and protection against inflation and currency debasement, as well as a commodity constantly in demand. However, there are many ways in which you could lose money, and knowing how to invest in gold is essential for success.

Diversified Portfolio

Nobody, of course, would suggest that you devote your entire portfolio to gold — diversification is the aim for every portfolio, and precious metals are an important part of this. Most money managers recommend between 3% and 10% of your portfolio for gold, but some go as high as 20%, or even 25%. It partly depends on how the rest of your portfolio is divided between more conservative and more volatile asset classes — if you lean more towards volatile investments that require a healthy economy to thrive, a higher proportion of gold will help to balance this out.

Whatever proportion you decide on, you will probably not be able to accumulate the full amount in a single purchase, and gradual buying over a period of time is common practice. In fact, for gold investment, many experts suggest dollar cost averaging, a strategy more often advocated for equities, to reduce the impact of price volatility. It involves buying a fixed dollar amount of an asset on a regular schedule, regardless of the price, and means that you purchase more of the asset when prices are low, and less when prices are high.

Several Options

When you are considering your actual method of gold investment, there are a number of options open to you. Your choice will depend largely on your investment priorities — whether you are primarily interested in holding gold as a safe haven, or whether you are looking for high rewards, with the accompanying risks. It will also be determined in part by how much liquidity you need — that is, whether you wish to hold your gold for the long term, or want to be able to convert it quickly into cash if necessary.

Why Hold Physical Gold?

The most liquid form of gold investment is holding the physical product in the form of gold bullion. Many investors actually consider this to be the only really reliable method of investment, as possessing the physical metal is the only way you can be certain that your gold really exists. It is also the only form of investment in which the value depends purely on the forces of supply and demand.

When investing in gold bullion coins or bars, make sure you buy as close to the gold spot price as possible — the higher the premium you pay, the longer it will take for you to see a profit. This means avoiding numismatic or collectors’ coins, which carry very high premiums and seldom recoup their price. The coins with the highest liquidity are the South African Krugerrand, American Eagle and Canadian Maple Leaf.

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Attractive Alternative

If you prefer to have direct exposure to the performance of gold without the problems of storage, an attractive alternative is to invest in one of the gold ETFs, or exchange traded funds. ETFs are similar to mutual funds, but trade on a stock exchange like an ordinary stock, and have an exact portfolio that is fixed in advance. There are a few ETFs that are physically backed by gold and track gold’s spot prices, the best known being SPDR Gold Shares and iShares Comex Gold Trust.

A variation on the ETF is the closed-end fund, which gives you the option of trading in your shares for 400-ounce gold bars. These funds can trade at either a huge discount or a huge premium on the gold price, so if you find one trading at a discount and you think the gold price will rise, this could be attractive. However, the fees are higher than those for conventional ETFs.

High Risk and Reward

If you are more interested in investment with a high risk/reward ratio, you may fancy gold mining stocks. These stocks can have a leverage of as much as 3:1 on the spot price either way. This means that if, for instance, the gold price rises by 10%, the stock price could rise by up to 30%, and vice versa if it falls by the same amount — so you should expect a rollercoaster ride.

Remember that unlike gold bullion, the performance of mining stocks depends on many other factors besides gold supply and demand, so when choosing gold stocks it is essential to carry out due diligence. Look for companies with good management and with sound production and reserve growth, and check out the cost and ease of extraction, which vary from company to company. Be aware of geopolitical factors and currency issues, and avoid small companies in the exploration phase.

As you consider the best way to invest in gold, it’s important to assess your priorities, and to be clear about the level of risk with which you feel comfortable. If you are tempted by the prospect of high profits into exceeding your level of risk tolerance, your investing will become a source of worry, instead of a source of reassurance. There are several safe ways of investing in gold, which can still provide you with growth, and secure your financial future as well.