Explore options for investing in gold

February 10, 2013

With the price of gold seeming to go up exponentially every day, it may seem like a solid investment. Discover how it can be, when invested in prudently.

Q: What do you think about investing in gold? I see a lot of commercials on TV and hear them on radio, and they all make it seem like a great investment. Is it?

A: Let’s start by reviewing some of the rationale for owning gold and then cover the ways to do so (physical gold, gold bullion investments, and gold mining stocks).

Gold has been used as currency throughout history. And even though  paper currency came into widespread use in the 19th century, gold was used to directly back all U.S. currency in circulation until the 1930s.

The argument for owning physical gold is that it serves as a store of value and exchange when paper currency may not. It also can be argued that gold retains an inherent value over time in reference to depreciating paper currencies. The fact that it is tangible, almost indestructible, and of limited quantity all adds to its appeal.

Gold prices usually correlate negatively with stock prices, meaning that when stocks perform poorly, gold does well, and vice versa. Having negatively correlated assets in a portfolio smooths out volatility and increases long-term returns.

As mentioned above, gold can be owned in several ways. Each has its advantages and drawbacks. Physical gold can be purchased from vendors as coins and bullion. (Be sure to do due diligence on the vendor before making any purchase.) The smaller the purchase, especially with coins, the higher the premium you will pay above the actual cost per ounce.

The advantage of owning physical gold is that it provides the potential for a currency alternative in the event of a national or worldwide economic catastrophe. It also is a certainty that you actually own it. The disadvantage is the risk of loss or theft.

Gold bullion can be owned through exchange traded funds (ETFs) such as GLD or IAU. For about 0.5% annually, your gold is held in guarded warehouses globally. The advantage is that you can participate in gold ownership at a low cost and without the worry of losing it.

The disadvantage is that you cannot hold or use the gold physically, if that is important to you. You also need to make certain that the vendor actually possesses the gold he or she claims to own, because instances of fraud have occurred in this market.

Lastly, you can own gold by purchasing shares in gold mining companies. The advantage and risk of doing so is leverage, in that the mining companies own reserves of gold in the ground with relatively fixed costs to extract it. As the price of gold moves up and down, the profits and losses of the mining companies fluctuate more than the price of gold itself. You can mitigate the risk somewhat by purchasing shares in a gold mining mutual fund or an ETF. As with gold ETFs, mining shares do not allow you to physically possess the gold.

I think that owning gold in a portfolio is prudent, as long as it’s in reasonable quantities. I don’t have strong feelings about the form in which the gold is held, but I generally recommend an ETF.

The answer to our reader’s question was provided by Steven Podnos, MD, CFP, principal of Wealth Care LLC in Merritt Island, Florida. Send your money management questions to medec@advanstar.com. Also engage at www.twitter.com/MedEconomics and www.facebook.com/MedicalEconomics.