Gold has been an investment for thousands of years and investors have held fortunes with the yellow metal in coin, bar, and jewelry form. More recently, other types of gold related investments have come on the market including futures, funds, stocks and ETFs.
There is a time to invest in gold, and we want you to know the best way to invest and when that time is. Just holding gold does not mean you will become rich, if you don’t time the ownership right. But gold is a good inflation proof investment that is also a hedge against stocks as it normally moves in an opposite direction.
There are few things that you can learn:
Gold can be very profitable and can be an easy way to start without a lot of investment as well as the need to store the investment. Gold is similar to other commodities in that it is priced with supply and demand, but has some differences that must be taken into account. Gold is also similar to a currency and the same principals with the forex market apply to gold too.
More than half of the gold mined each year goes into manufacturing processes, mostly jewelry. The other half is purchased by investors and held by nations, the World Bank and the IMF. From 1971 the US got off the gold standard and the dollar became a fiat (backed by nothing) currency. Since then those that were not already fiat have also gone that way but the price of gold has also climbed from $35/oz to the July 2020 price of $1782/oz. Not a bad increase.
When you purchase physical gold and you take possession, the price does not matter until you sell it. If ETFs or futures are purchased what is happening in the market can affect things. Gold is often used as a tool for diversification of the portfolio, making it one of many classes of assets owned. No matter what the asset you purchase the goal is to gain in a certain way. The big difference between gold and stocks is that with stocks there is always a chance that the price will go to zero and the company will be bankrupt. With gold you are paying a premium because there will always be a demand for the metal and this limits the downside risk.
If the gold price goes up or down the amount of gold you have will not change.
You must first consider why you want gold? Do you want it to increase your wealth or just to own gold which just this desire has a value. Preparing for the Zombie Apocalypse is different from increasing wealth through the purchase of futures, EPFs or mining stocks. You can always trade bars for a home or food, but ETFs have the potential to go to zero, that is why people demand a higher return from them.
Futures
This is also a unique way of investing in gold which does not require its storage, and can be a small investment. It is a speculation where you never own the gold but can still make a profit from it. Futures are legally binding contracts for the delivery of a quantity and quality of gold at a prescribed time and location of delivery. The price can go up and down but no other factors can change.
Stocks
These are shares in the companies that produce gold through mining and refinement. They do not mean you own the gold they produce.
Physical Gold (Bullion and Coins)
This is the only gold investment where you hold the gold. It is a commodity to own in that is a medium of exchange that can be traded for something else anywhere in the world, especially during a recession. Gold stocks, futures, ETFs and funds do not mean you take possession of the gold, nor can they be redeemed for gold. Since there are no more currencies that are on a gold standard buying a foreign currency is not a substitute for the commodity gold. Physical gold is the bars and coins, of purity that is established, and sold with regard to the daily sport price for gold. This market is worldwide and denominated in dollars. When gold bars, coins, or even jewelry are purchased, they will usually not change in value to each other much, so no matter what form the returns will be about the same.
The Trading of Gold
Though a currency and gold may seem to be the same in that they can be traded for something else with few exceptions, the US dollar being the major one, nearly all currencies can only be used in a single country. Gold too holds a position as a way in which goods and services can be purchased, and where it differentiates is that gold has an intrinsic value where fiat currency is only a debt that a government owes. When the dollar raises in value gold falls and vice-versa, making it inversely correlated with the dollar.
Gold as a Foreign Currency
This correlation is the same as with foreign currencies. As the British Pound Sterling goes up the dollar goes down, and because of this the Pound (and all other foreign currencies) is directly correlated with the price of gold.
Knowing the nature of these correlations is useful when determining how much gold to allocate to your portfolio. The foreign exchange market (called forex) is where currencies are traded. They are not tied to gold and are only the price of one country’s currency compared to all the others. These fiat currencies cannot be redeemed for anything, but gold can, and if you wish to purchase gold with a foreign currency it must first be converted to USD then to the price of gold vs the USD. What you must consider is that if you purchase a foreign currency you are not diversified with gold because they are correlated.
The Pound/Japanese yen pair is positively correlated to gold, or any currency pair for that matter, the price of that pair, and the price of gold to the USD is up or down at the same time. When you purchase gold as well as a currency pair you are now not diversified, as the loss or gain of gold or in the currency is amplified by twice as much.
Gold as a Commodity
When we look at gold versus the S&P
In general you will find that the stock market and gold will move together but stocks will lead and then the gold price will follow the markets movements. Only in times of the uncertainty, like we have seen with COVID, do people leave stocks and go to gold in a panic. This can also be a help if you see that uncertainty is coming. Gold will often have wider swings as well. The amount of gold in the world is much less than the amount of stocks available to purchase.
In Summary
When using gold to protect your portfolio from market risk, hoping that diversification is created, you must be aware that beyond market risk there is also systemic risk and price risk that cannot be removed from a portfolio by the purchase of any asset. You still need to monitor your portfolio closely and watch changes. Gold does have advantages and can be a valuable portion of your assets. Knowing the signs to follow and reacting when best suited can help your success.