Methods of investing in gold
From Wikipedia, the free encyclopedia
- This is a sub-article of gold as an investment.
Investment in gold can be done directly through ownership, or indirectly through certificates, accounts, spread betting, derivatives or shares.
Other than storing gold in one's own safe deposit box at a bank or in your home, gold can also be placed in allocated (also known as non-fungible), or unallocated (fungible or pooled) storage with a bank or dealer. In the case of the latter going bankrupt, the client will be unable to claim the gold and would become a general creditor, whereas gold held in allocated storage should be returned to the client in full [2]. However even with gold held in allocated storage, many gold bugs would still choose their storage provider carefully, making sure of high net worth, with some preferring an offshore bank or storage facility.
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[edit] Gold investments
[edit] Bars
The most traditional way of investing in gold is by buying bullion gold bars. In some countries, like Argentina, Austria, Liechtenstein and Switzerland, these can easily be bought or sold "over the counter" of the major banks. Alternatively, there are bullion dealers which provide the same service. Bars are available in various sizes, for example in Europe these would typically be in 12.5kg or 1kg bars (1kg = 32.15072 Troy ounces), although many other weights exist, such as the Tael, the 10oz or 1oz bar.
[edit] Coins
Buying gold coins is a popular way of holding gold. Typically bullion coins are priced according to their weight, with little or no premium above the gold price. Among the most popular bullion gold coins are the South African Krugerrand, the Canadian Gold Maple Leaf, the American Gold Eagle, the American Gold Buffalo, the Indonesian Logam Mulia and the Australian Gold Nugget, all of which contain exactly one troy ounce of gold each. Other popular one ounce bullion coins include the Chinese Panda, and the Austrian Philharmonic. Gold coins which are used as bullion coins include the British gold sovereign and the Swiss Vreneli, but these are much lighter than one ounce. Again the large Swiss and Liechtenstein banks will buy and sell these coins over the counter. Also available is the gold dinar which has Islamic significance.
[edit] Certificates
A certificate of ownership can be held by gold investors, instead of storing the actual gold bullion. Gold certificates allow investors to buy and sell the security without the hassles associated with the transfer of actual physical gold. The Perth Mint Certificate Program (PMCP) is the only government guaranteed gold certificate program in the world. The programme offers investors the ability to store gold, silver and or platinum in an unallocated account free of any storage costs. It is widely accepted that the greatest cost in owning precious metals in a portfolio for long term diversification reasons is not the buying or selling costs but the holding costs. This makes the Perth Mint an attractive, low cost and safe way to invest in precious metals.
Some argue that it is not the same as owning the real thing, as a certificate is just a piece of paper, especially in a war, crisis, or credit collapse. Others counter that, due to the difficulties of owning and storing a significant amount of gold, a government backed and guaranteed product is the most convenient and cost effective route to take.
[edit] Accounts
- See also: Digital gold currency, BullionVault, and GoldMoney
Most Swiss banks offer gold accounts where gold can be instantly bought or sold just like any foreign currency. Digital gold currency accounts and the BullionVault gold exchange work on a similar principle. GoldMoney is another very popular so-called "digital gold" provider, who has been in business since 2001 (they currently have more metal in circulation than any other similar service). Gold accounts are typically backed through unallocated or allocated gold storage. Different accounts impose varying levels of intermediation between the client and their gold, for example through bailment or within a trust. Bailment is the legal action of a client entrusting their physical property to another party for safekeeping, and paying for the service.
[edit] Exchange-traded funds
Gold exchange-traded funds (or GETFs) are traded like shares on the major stock exchanges including London, New York and Sydney. The first gold ETF, Gold Bullion Securities (ticker symbol "GOLD"), was launched in March 2003 on the Australian Stock Exchange, and originally represented exactly one-tenth of an ounce of gold. Due to costs, the amount of gold in each certificate is now slightly less. They are fully backed by gold which is both deposited and insured. The inventory of gold is managed by buying and selling gold on the open market [1].
Many investors who wish to hold gold on a long term basis find the Exchange Traded Fund method to be expensive as annual costs can range from 0.40% to 0.50%. For investors holding gold over the long term these costs add up. The major difficulty is that the costs are deducted as a reduction in physical bullion held. Thus the investor not only pays each year but loses the future performance of the bullion that has been deducted.
Gold ETFs represent an easy way to gain exposure to the gold price, without the inconvenience of storing physical bars. Typically a small commission is charged for trading in gold ETFs and a small annual storage fee is charged. The annual expenses of the fund such as storage, insurance, and management fees are charged by selling a small amount of gold represented by each certificate, so the amount of gold in each certificate will gradually decline over time. In some countries, gold ETFs represent a way to avoid the sales tax or the VAT which would apply to physical gold coins and bars. Economies of scale, liquidity, and ease of purchase and sale make ETFs an increasingly popular method of investing in gold.
Exchange Traded Funds are most suitable for those who wish to speculate in the short term. For those wishing to diversify, holding costs or management charges are of paramount importance. In addition counterparty risk should also be examined. Government backed gold certificates can offer an attractive alternative to investors wishing to invest for the long haul as they are government backed and attract no management or holding charges.
In May 2006, gold ETFs held 491 tonnes of gold in total [3] [4].
[edit] Spread betting
Firms such as Cantor Index and IG Index, both from the UK, offer the ability to take a bet on the price of gold through what is known as a spread bet. Say the price of December gold is quoted at $475.10 to $476.10 per troy ounce. An investor who thinks the price will fall would "sell" at $475.10. The minimum bet is $2 per point, (i.e. equivalent to 200 ounces). If the price of gold rises to $480.10 when the seller closes his bet, the loss is 500 points multiplied by the bet of $2 making a loss of $1000 in total. No commissions or taxes are levied in the UK on spread betting.
[edit] Derivatives
Derivatives, such as gold forwards, futures and options, currently trade on various exchanges around the world and over-the-counter (OTC) directly in the private market. In the U.S., gold futures are primarily traded on the New York Commodities Exchange (COMEX), a division of the New York Mercantile Exchange (NYMEX), and Chicago Board of Trade (CBOT). In November 2006, the National Commodity and Derivatives Exchange (NCDEX) in India introduced 100 gram gold futures [5].
[edit] Mining companies
- See also: Category:Gold mining companies
These do not represent gold at all, but rather are shares in gold mining companies. If the gold price rises, the profits of the gold mining company could be expected to rise and as a result the share price may rise. However, there are many factors to take into account and it is not always the case that a share price will rise when the gold price increases. Some of the following questions might be relevant before investing in the shares of a gold mining company: Has the company hedged the gold price i.e. already sold part of its future gold production through forward sales? Is the company already producing gold, or is it mainly exploring for gold? Does the company make a profit? How many years of ore reserves are left in the mines before they have to be closed down? What P/E ratio and dividend yield does the company have now and in the following years? Are the mines subject to political, economic or currency exchange risks?
Unlike gold bullion, which is regarded as a safe haven asset, unhedged gold shares or funds are regarded as high risk and extremely volatile. This volatility is due to the inherent leverage in the mining sector. For example, if you own a share in a gold mine where the costs of production are $300 per ounce and the price of gold is $600, the mine's profit margin will be $300. A 10% increase in the gold price to $660 per ounce will push that margin up to $360, which actually represents a 20% increase in the mine's profitability, and potentially a 20% increase in the share price. Conversely, a 10% fall in the gold price to $540 will decrease that margin to $240, which actually represents a 20% fall in the mine's profitability, and potentially a 20% decrease in the share price. The amplification of gold mining profits during periods of rising prices can cause a gold rush in mining exploration.
In order to reduce this volatility many gold mining companies hedge the gold price up to 18 months in advance. This provides the mining company and investor with less exposure to short term gold price fluctuations, but reduces potential returns when the gold price is rising. The AMEX Gold BUGS Index is composed of the largest unhedged gold stocks listed on AMEX (BUGS - Basket of Unhedged Gold Stocks) [6]. The AMEX Gold BUGS Index (ticker symbol "HUI") has outperformed general gold mining stocks, represented by the Philadelphia Gold and Silver Index ("XAU"), over recent years [7].
Instead of personally selecting individual companies, some investors prefer spreading their risk by investing in gold mining mutual funds such as the Gold & General Fund by BlackRock [8], or exchange-traded funds such as the Market Vectors Gold Miners ETF (NYSE: GDX) by Van Eck Global which tracks the Amex Gold Miners Index [9] or the iShares CDN Gold Sector Index Fund (TSX: XGD) which tracks the S&P/TSX Global Gold Index [10].
[edit] Taxation
- See also: Taxation of precious metals
Gold maintains a special position in the market with many tax regimes. For example, in the European Union the trading of recognised gold coins and bullion products are free of VAT. Silver, and other precious metals or commodities, do not have the same allowance. Other taxes such as capital gains tax may also apply for individuals depending on their tax residency. U.S. citizens may be taxed on their gold profits at 15, 23, 28 or 35 percent, depending on the investment vehicle used [11].
[edit] Scams and frauds
Gold attracts its fair share of fraudulent activity. Some of the most common to be aware of are:
- High Yield Investment Programs - HYIPs are usually just pyramid schemes dressed up with no real value underneath. Using gold in their prospectus makes them seem more solid and trustworthy.
- Advance fee fraud - Various emails circulate on the Internet for buyers or sellers of up to 10,000 metric tonnes of gold. This is more gold than the US Federal Reserve owns. Often naive middlemen are drafted in as hopeful brokers, and usually mention mythical terms like 'Swiss Procedure' or 'FCO' (Full Corporate Offer). The end-game of these scams is unknown, but they probably just attempt to extract a small 'validation' sum out of the innocent buyer/seller from their hope of getting the big deal. See Article on Scam Baiting
- Gold dust sellers - This scam persuades an investor there is real gold with a trial quantity, then eventually delivers brass filings or similar.
- Counterfeit gold coins.
- Shares in fraudulent mining companies with no gold reserves, or potential of finding gold [12], as per the old saying mistakenly attributed to Mark Twain that "A gold mine is a hole in the ground with a liar on top."
