Introduction
J.P. Morgan once said, “Gold is money; everything else is credit.” Since recorded history, people have been obsessed with this rare precious metal. Entire nations have been destroyed and created over gold.
It’s not just the precious metal’s visual allure. Even today, it still has a status symbol, something we associate with wealth. There are many things to write about regarding this precious metal where we can understand the purposes people invest money in gold.
Of course, there are always two sides to a coin. So, let this be your ultimate guide in looking at the pros and cons of investing in gold (if you’re interested in learning about trading silver, check out this piece here).
The different avenues of investing in gold
Before we observe the pros and cons of gold investment, let’s look at the different ways people invest in it. Some may wonder is gold good to invest in, but the chosen avenue affects the quality of the investment.
Before diving into the specifics, let’s summarize the pros and cons of investing in gold in different mediums.
| Gold investing method | Pros | Cons |
| Physical gold | – Direct ownership of real and near 100% gold – No counterparty risk – May be useful in hyperinflation scenarios – Simple to understand | – Quite expensive – Less liquid – Storage costs apply – Doesn’t offer any yield |
| Certificates | – Less bulkier than physical gold – Easy to understand – Can be highly valuable | – Rare to find original certificates – Trust in the issuing company |
| Derivatives | – Leveraged product – Accessible – No physical ownership of gold – Potential for the most gains – Very liquid | – Leverage can lead to massive losses – More complex to understand |
| Exchange-traded and mutual funds | – Best for passive investing – Offers the potential for diversification – Lower fees | – Only suitable for long-term investors – Lower profit yields |
Physical gold
Here, we refer to gold bullion/bars and collectible gold coins like the South African Krugerrand, and Australian Kangaroo.
Acquiring the precious metal in physical form is a considerable element when observing the pros and cons of investing in gold. Straight away, real gold is expensive and is the first deterrent for many investors.
Let’s not forget that it’s pretty clunky to move around. Lastly, the incredible expense of acquiring the physical metal makes it difficult to resell. Yet, this avenue offers some benefits when considering the pros and cons of investing in gold.
Firstly, with bullion, you receive the precious metal’s highest purity, equalling a higher value. Also, when you own the real thing, the gold is yours and is not tied to any third-party system like a broker, exchange, or government.
Generally, experts see coins as short-term investments, while bullion is more for long-term wealth preservation.
Certificates
During the 17th century, in the days of goldsmiths, people needed proof of ownership when they deposited their bullion for safekeeping. And so came the gold certificate, which specified how much gold an owner held.
Gold certificates were eventually used as cash, with some looking like actual currency notes. Historians believe 1934 was the final year for gold certificates, meaning they are incredibly rare nowadays.
This also means they can be expensive, similar to coins and bullion. However, there are companies like banks and gold mints that issue certificates without having to own the gold.
Derivatives
We cannot talk about the pros and cons of investing in gold without looking at derivatives. These are financial markets whose prices are derived or obtained from an underlying asset. It’s a way of trading an instrument without taking physical ownership; this is their biggest advantage.
We have several gold derivatives, the most notable being the XAU/USD instrument in Forex or metals. Yet, other popular products for the precious metal include futures, crypto, and options, all of which obtain their value from the market gold value.
Another benefit is leverage, which allows you to trade bigger positions with only a relatively small balance. Despite the potential to lose substantial amounts, a leveraged product is far less capital-intensive than buying physical gold.
The third factor is liquidity. Billions are poured into the derivatives market daily. There will always be a seller for every buyer and a buyer for every seller. All of this happens at the click of a mouse.
Exchange-traded and mutual funds
Here, we refer to investment funds, mainly ETFs and mutual funds. They represent a basket of stocks or a company holding a certain amount of gold bullion (where they closely track the price of gold). The SPDR Gold Trust (GLD) is a prime example of the latter, where its shares reflect the performance of gold’s value.
Still, going the funds route when investing in gold is best for passive long-term investors with a buy-and-hold approach, which saves on trading costs.
If you’re trading a derivative for short-term speculation, then your rate of execution can result in higher fees.
Another advantage is, depending on the fund, there may be diversification where its price is not reliant on a single factor. On the downside, funds do not suit investors with a shorter time horizon. Also, you receive lower yields without any leverage when investing in gold through this channel.
Should you buy gold? Benefits of gold investment
Why do people invest in gold? What is so special about this precious metal that makes it seem like the best thing since sliced bread? Let’s look at the reasons.
Demand and range of applications
The chart above shows the performance of the precious metal over the past several decades. When considering the pros and cons of investing in gold, it’s hard to argue about its high value.
Gold is valuable for several reasons. Firstly, it’s a scarce commodity due to its unique atomic structure and the enormous resources needed to mine it. Of course, gold is not just a lustrous, shiny object with no use.
You can find it in electronics, dentistry, aerospace, glassmaking, and even on Olympic medals, to name a few things.
With so many applications, demand for the precious metal has steadily increased. In examining the pros and cons of investing in gold, you can rest assured nothing will replace it.
Potential inflation hedge
The purchasing power of our money gradually declines as time goes on, thanks to inflation. This is primarily due to the deflationary nature of fiat currencies. Yet, because gold is a finite resource that you can’t just print out of thin air, it theoretically should rise in value over time.
Central banks have been hoarding the precious metal for years for the same reason. Thus, in looking at the pros and cons of investing in gold, goldbugs believe that gold’s price and the inflation rate move in tandem.
The images below show charts for the Consumer Price Index and the price of gold since the mid-80s so that you can notice the correlation.
Generally, most investors believe gold is one of the best-performing assets during times of inflation and economic despair.
Along with this is the perception of the precious metal being a storer of value or ‘safe haven’. Again, it returns to the concept of ordinary money losing its worth while gold retains it.
Many gold enthusiasts envision a dystopian period of hyperinflation where we use the metal as a substitute currency for trading purposes. This would work if you held the physical gold, but there are downsides to this approach (more on this later).
Based on the historical trend, the gist is that investing in gold may follow the same path of steady growth in the future.
Simplicity
Investing in gold is simple, even for a five-year old to understand. Everyone recognises the uses of the precious metal and why we hold it in high regard. Although other economic factors affect its price, the demand will always be there for this shiny object.
Why not to invest in gold: drawbacks of investing in gold
So, why is gold a bad investment? As they say, not everything that glitters is gold.
Hefty cost
The high expense only applies when you invest money in gold in its tangible version. At the time of writing, you’re looking at about $1700 for a troy ounce. Also, physical gold isn’t easy to store (unless you put it under your mattress, which isn’t a good idea).
This means that you should consider an external storage facility, which, of course, is an extra cost.
Lack of liquidity when dealing with physical gold
Selling physical gold can take several days or longer, not to mention the admin involved. Yet, if you invest money in gold electronically, you won’t have this problem.
Concerns about its perception of value storage
The inflation hedge theory is something many bring up when looking at the pros and cons of investing in gold. This is because gold doesn’t always perform as expected, even during a weakening dollar or tough economic times.
The other part of this argument is that, even during a rare case of hyperinflation, no one knows whether we will practically use gold for trading purposes. Some analysts feel that the hoarding of gold is based on such a fear, but the chances of it happening globally are low.
Still a speculative asset
When we looked at the benefits of gold investment, we mentioned that the metal has intrinsic value based on its applications and limited supply. Yet, gold isn’t a cash-generating asset. The prices of most financial assets, whether crypto or Forex, are driven by speculation.
Put simply, everyone is looking to make money. In many cases, the supply and demand of gold is largely affected by people’s fear and greed instead of its intrinsic value or use cases.
Conclusion
You may be asking: should I buy gold? You should fully understand the pros and cons of investing in gold at this stage.
Ultimately, it depends on the trading method. Also, like any financial asset, the price is determined by what another person is willing to trade for it. Despite the historical significance of the precious metal, gold can be in a bear market for extended periods.
Therefore, you need to understand the gold investment advantages and disadvantages to make a comfortable decision.
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