Fight Inflation with Gold?

Note- This article is for educational purposes only, and is not intended as investment advance.

Over the last year, the topic of inflation has dominated financial markets globally. Recent moves by the Federal Reserve (and other global central banks) have driven a tremendous increase in market volatility- particularly in stock and bond markets.

In the midst of this kind of market volatility, many investors naturally think about gold and other precious metals as a potential haven.

But where to start?

If you’re not sure how to get started investing in gold, you’re not alone. Though there are many ways to invest in gold, each with their own advantages and disadvantages, the first step in learning how to invest in gold is to understand what you’re getting into and make sure that it’s right for you. In this article, we’’ll take a look at four of the most popular ways to buy gold and see which would be the best fit for your investment goals and financial situation.

Option1: Buy Physical Gold

If you want the most secure and cost-effective way to buy gold, physical gold is an excellent choice. This type of gold comes in the form of coins or bars that can be purchased at a coin shop, or ordered through a number of providers online.

The advantages are obvious here- there is a good deal of physical (and psychological!) security that comes from having secure and safe access to your investment. Gold is tangible, and -while price risk clearly exists- it is less volatile oftentimes than paper or derivative products based on its worth.

Of course, the downsides of owning physical gold are inversely related to the advantages. As a physical asset, your gold will require safe and secure storage to truly protect its value. Additionally, physical gold is less liquid than other (paper) gold products that can be instantly converted to cash should the need arise

Option 2: Buy Gold ETFs

What are Gold ETFs

Gold ETFs are Exchange-Traded Funds that track the performance of the physical commodity of gold. The investor does not own the gold itself- but instead shares in the exchange traded fund.

Gold ETFs make investing in gold easy and convenient. This type of investment is especially attractive because of the tax benefits (if held in an IRA) , as well as its ability to hedge against inflation. With gold ETFs, you don't have to worry about physical storage or having a loss due to physical depreciation.

The downside is that this type of investment does come with higher fees than buying physical gold, typically in the form of fund management fees than run from 15 to 100 basis points annually.. In addition, there may be high demand for these investments during periods of economic instability which can lead to price fluctuations that move the price of the asset beyond its true (intrinsic) value. The opposite can be true as well, with the potential for the ETF to trade below the physical value for some time.

Option 3: Gold Futures

Gold futures are standardized contracts between a buyer and seller that trade on a central exchange like the Chicago Options Exchange. In these contracts a buyer contracts to take delivery amount of gold at a given date at a specified price from the seller. For example, you may enter a contract to buy 1000 ounces of gold $1900 ton in September.

The advantages of gold futures include the fact that the contacts are standardized., meaning the investor only needs to chose from a selection of predetermined amounts and prices based on their preferences and risk appetites. Additionally, futures typically allow the buyer to purchase a contract on margin- eg, he or she deposits a fraction of the purchase amount and finances the rest. This allows the investor to control a large investment with a limited amount of funds and increase the investment’s leverage to gold price.

The key disadvantage here is potential volatility, which is amplified by the potential leverage from margin. If the investor purchases a contract with only 25% cash (the remainder on margin), and the contract value dips by 30%, the investor’s position is essentially wiped out. For this reason, mots investment advisers suggest that only experienced and sophisticated investors look at futures as a way of getting gold exposure.

Option 4: Gold Mining Stocks

Gold mining stocks allow investors to purchase shares (equity) in firms that are involved in the mining and processing in the commodity itself. These can range from international mining giants like Barrick Gold and Newmont, all the way to very small and speculative “junior” miners that are trying to develop individual mines on locations like Namibia or Saskatchewan.

Gold stocks allow the investor to take a position on the underlying commodity itself, but also make an investment based on their perception of the company’s management team and operational expertise as well. For example, some companies are known to be very efficient miners and operators, while others may have management teams that have successfully developed large scale mining projects before. An additional advantage here is the liquidity, as these shares are traded on major exchanges, and can be bought and sold easily at the bush of a button.

One of the challenges in mining stocks, however, is related to valuation. The investors looks ta the value of the gold itself (both currently mined, as well as reserves and prospects) but also needs to develop a view on the operational side of the business- e.g. how the company is set to handle operating and financing expenses at various levels of production. From there, the investor can develop a informed view on value to compare to current market price to determine if the hare are a wise investment.

As we’ve seen, there are a number of ways of investing in gold in the current environment- each with its own unique combination of advantages and drawbacks. Each investor should carefully examine their own situation and risk tolerance before taking a position in these types of assets.

Click here for more info on the advantages of buying Gold and other metals through an IRA.