Investing in Gold

Ever since its discovery, people have been investing in gold due to its beauty and scarcity.  In fact, according to the U.S. Mint, gold is so rare on Earth that all of the gold ever mined could fit into a cube that is just 60 feet on each side.  These are just a few of the reasons that gold continues to enjoy widespread interest as an investment opportunity.

Another important feature of gold is its liquidity. Gold is an internationally recognized benchmark of value, and is held in reserve by most governments.  When purchased by the consumer in the form of bullion, such as the American Gold Eagle, gold is both easy to store and trade.

Most large newspapers report the daily price and change in price of gold.  This allows investors to easily track their portfolio's value and performance.  Typically, gold prices are reported for the American Eagle, the Austrian Vienna Philharmonic, the Canadian Maple Leaf, and the South African Krugerrand.

With that as a background, were going to begin to discuss why, and how, people invest in gold.

Reasons for Investing in Gold

Gold is a proven way to preserve wealth when the local currency is losing its value.  For example, with concerns over the federal budget deficit and national debt in the United States, the price of gold has been increasing sharply since around mid-2004.  As international investors lose faith in the U.S dollar, gold typically becomes more valuable relative to the dollar.

Gold is also valuable for reasons beyond investments, and this is demonstrated by the ever growing demand for gold.  In fact, over the past decade, consumption of gold has actually exceeded production.  Since the production of gold is controlled by relatively few companies, whenever the price of gold dips below current production costs, these companies merely cease operations.  This mechanism creates a stable floor price for gold.

Finally, gold is also a good way to diversify, or hedge, an investment portfolio.  The price of gold does not necessarily move in-step with stock prices.

Reasons to Avoid Gold

There is no guaranteed return on your investment when it comes to gold.  Gold does not pay interest like a bond or stock dividends.  The central banks of countries hold large stores of gold, which is a high percentage of all the gold in the world.  If a country were to sell off this gold, it would create a surplus of the metal on the market, driving prices down.

In other words, since large amounts of gold are held by relatively few parties, a decision to liquidate all holdings would have an immediate downward pressure on prices.  In many ways, each of these countries has a great deal of potential market power when it comes to determining the price of gold.

Ways to Invest in Gold

At last count, there were about ten different ways to invest in gold.  These options range from physical possession of the asset and storing gold in vaults locally, through investing in gold stocks and mutual funds.  Listed below is a more complete list of the various ways investors can participate in the gold market:

Bullion, Coin and Jewelry

• Gold Bullion / Gold Bars - produced by refiners in increments that range from one gram through 400 ounces (25 pounds) worth nearly $600,000 at today's prices (March 2011).  Typical measures include Troy ounces, kilograms, and the Tael.
• Gold Coins / Sovereign - the most popular forms of gold coins were mentioned earlier, and  includes the American Eagle, the Austrian Vienna Philharmonic, the Canadian Maple Leaf, the Chinese Panda, the Australian Kangaroo, and the South African Krugerrand.  Many of these bullion coins are sold in quantities of one ounce bullion.
• Digital Gold Currency - many Swiss banks offer gold accounts where investors can quickly buy or sell gold just like any foreign currency.   Digital gold currency accounts and BullionVault gold are exchanged using a similar practice.
• Collectible Coins - also referred to as numismatic, or the hobby of collecting old or rare coins.  Unfortunately, it is often difficult to get an accurate appraisal of a collectible gold coin, since its value is not limited to the amount of gold present in the coin itself, but other factors such as rareness and condition.
• Jewelry - the purchase and holding of gold jewelry for investment purposes is much more common outside of the United States.  This is an expensive way to collect gold, since a premium will be paid for the craftsmanship associated with making gold jewelry.

Certificates, Stocks and Funds

• Gold Certificates - a paper certificate indicating ownership of gold that is held by a financial institution.  Gold certificates allow the investor to buy and sell gold without the worry of physically storing the gold.  The Perth Mint Certificate Program (PMCP) is the only government guaranteed gold certificate program in the world.
• Gold Mining Company Stock - investing in the gold mining company itself can bring additional rewards as well as risks.  For example, the price of the company's stock will move with the price of gold in addition to the company's future outlook.
• Exchange Traded Funds - gold exchange traded funds (GETFs) are traded on major stock exchanges including those located in London, New York, and Sydney Australia.  Gold ETFs are an easy way to expose your portfolio to the price of gold, without the bother of buying gold directly.  Small commissions are normally charged for trading in EFTs and for storing the gold itself.
• Gold Mutual Funds - an alternative to creating a portfolio of gold mining stocks on your own, gold mutual funds eliminate the risk associated with a single company's operating performance.
• Leveraged Gold Investments - this includes the purchase of both stock options and futures.  This type of investment is generally a leveraged one, and therefore returns the greatest rewards to the investor to match the higher risk exposure.

Factors Influencing the Price of Gold

As mentioned earlier, all investments, including gold, are influenced by the factors of supply and demand.  Since large hoards of gold are held by relatively few parties, the price of gold can be significantly influenced by the hoarding (buying up) or de-hoarding (selling) of gold by these mostly governmental parties.

Generally, the price of gold is influenced more by changes in sentiment than the change in annual production (supply) or demand for items such as gold jewelry.

Gold Held in Central Banks

In fact, the world's central banks and the International Monetary Fund hold roughly 20% of all above ground gold as official gold reserves.  European banks have been net sellers of approximately 500 tons of gold per year.

Although difficult to measure, the most influential central banks hoarding gold in the world include the United States, Japan, Australia, Russia, and China.

Investor Sentiment / Inflation

Today, investor sentiment and fears of inflation play a huge role in determining the price of gold.  Whenever a crisis threatens, many investors rush to buy and hold onto gold. When paper currency appears to be at risk of inflation or even hyperinflation, investors seek to purchase tangible assets; something they can hold onto, and is valued.

Gold fits that last description perfectly.  It's universally valued, not easily destroyed, and you can hold onto it (although it's quite dense).   That's why many investors consider gold as an inflation-proof investment, and also helps to explain the growing interest among investors in buying gold as an integral part of their investment portfolio.

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