Investing in Physical Gold vs ETFs

July 7, 2011 - by mosesbet · Filed Under Gold Investment Leave a Comment

Once you’ve put your foot down and decided that you want to invest in gold than you have two options: either you buy physical gold (such as gold coins, rounds and bullion) or you can invest in a ETF (exchange trade fund) such as GLD.

What is an ETF?

An ETF (exchange traded fund) is an investment fund traded on a market which follows the spot price of gold (99.95% purity). If you buy shares in an ETF and the spot price of gold increases 5% than your shares will also increase 5% in value. This is all fairly simple stuff.

In order to buy shares in an ETF you need to contact your local broker (or investment manager) just like you would if you wanted to invest in shares such as Microsoft. There are lots of massive ETFs to choose from including GLD (SPDR Gold Trust) or Street TRACKS SPDR Gold Trust (NYSE: GLD). Another welll known silver ETF is SLV (iShares Silver Trust). Every share that you buy in an ETF is worth around 1 gram or 10% of an ounce of gold.

Advantages of an ETF

The main advantage of investing in gold through an ETF is that it’s much more liquid. It’s easier for you to buy/sell shares in an ETF than it is to actually buy and store physical gold. The risks of owning $1,000 or $10,000+ of gold bullion in your home is removed, you don’t have to pay the insurance costs. Basically, the main advantages of an ETF are that they enable speculative traders to profit from bull markets as the price of gold increases without having to physically own the gold outright.

The other advantage of ETF is that the mark-up and broker’s commission can be lower than your local gold bullion dealer. Remember that the world’s biggest ETF (GLD) owns almost $50 billion in liquid assets. This means their margins can be much lower than you typical broker. Most Management Expense Ratios (MER) will be only 0.5%, although these can sometimes rise to 1%. Investing in smaller quantities of gold (10 ounces or less) can be more cost efficient by purchasing shares in a gold fund. You can buy a single share in GLD from as little as $130 at the moment.

Disadvantages of an ETF

Although ETFs remove the hassle of owning gold and may seem attractive, you’re normally better off just buying physical gold. If you buy gold at BullionVault.com for example then they’ll store the physical gold for you. There’s a special process involved if you want to withdraw your gold directly. Note that in the case of ETFs you cannot withdraw any gold. All you receive is a piece of paper that is not necessarily linked to any gold set aside.

If you’re investing in ETFs solely for the purpose of harbouring against economic risk or another “credit crunch” than you’ll be disappointed. If an international economic catatastrophe did happen than it could be the case that the bank/exchange that your fund is traded on could go bankrupt. This would mean you lose most (if not all) of the value of your ETF. Remember that you can’t withdraw any physical gold with an ETF share certificate, hence you might not be left with anything. Of course, the chances of this happening are extremely minute.

Finally, many argue that while ETFs are fine for short term investments in gold if you’re looking to go long (5+ years) than you should invest in bullion or gold coins directly. The MER costs can make long term investments pretty poor in the long run. If you’re paying 1% per year for example than after 20 years you could have less gold than you originally started with.

Conclusion

Generally speaking, it makes far more sense buy gold bullion directly. Many online dealers on the bullion market such as BullionVault.com will even store it for you. Most gold investment experts recommend investing no more than 25% of your total gold assets in ETFs leaving 75% of your assets stored as physical gold in case of an emergency.

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