Want to invest in gold but aren’t sure about the best way to do it? Ask a simple question to narrow your options: Do you want to hold the actual gold or simply track its price?
Generally speaking, there are two types of gold investment:
- Physical gold
- Paper-based or digital gold
One of the most popular paper options is gold exchange-traded funds (ETFs). Let’s take a look at the differences and similarities between physical gold and ETFs to help you decide which best suits your financial goals.
What is investment-grade physical gold?
Physical gold is largely self-explanatory; it’s gold that you can hold in your hand. You can invest in bullion such as gold rounds and bars and government-minted coins. Most of these should meet the standard “investment-grade” threshold of 99.5% purity (though there are exceptions).
Even jewelry can be considered an investment of sorts—though most are below the standard investment-grade purity level. This is important, because gold below investment-grade can be more difficult to sell; it’s what many dealers look for, as it’s easier to discern the value of what they’re buying than, say, a 14-karat pendant.
It’s worth noting that jewelry is generally not the ideal way to invest in gold, as you’ll often pay a high markup for design and labor. A dealer will usually give you an offer based on the melt value of your piece.
Also, should you want to hold gold in an IRA, it will need to meet strict investment-grade standards.
What is a gold ETF?
A gold ETF is sort of like digital gold. It’s a way to “own” gold without ever touching it.
The primary types of gold ETF are:
- Physical gold ETFs: These are funds that usually hold physical gold in a vault and divide it into shares you can buy in a brokerage account. You’re effectively purchasing gold but you don’t have to store it.
- Gold mining ETFs: You can also opt to buy stocks in companies that mine for and produce gold. This is different from a pure gold ETF in that you’re betting on the success of the company instead of purely the price of the metal. It’s riskier, but there can be a bigger upside—and an ETF spreads out your risk among multiple companies.
Importantly, note that gold ETFs don’t automatically come with the ability to take delivery of your precious metals. Of course, you could sell your shares for cash and then buy it separately if you like.
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Physical gold vs. gold ETFs: How they compare
Though both physical gold and gold ETFs are a method of investing in precious metals, they come with many differences. Here’s what to expect.
Cost and fees
When it comes to ancillary fees, physical gold is the big loser. You’ll be subject to charges such as:
- Dealer premiums: Dealers sell physical gold at a markup above spot price to pay their expenses and make profit. Gold ETFs aren’t subject to dealer premiums, though you will pay a small spread every time you buy and sell.
- Insurance: Storing gold may or may not be covered by your current insurance plan. If not, inquire to see how much it’d cost to add it. This is an ongoing expense that you may not consider before investing, but it can be considerable.
- Shipping: When you buy physical gold online—or when you sell it—you’ll often be responsible for shipping costs. Investing in ETFs requires no shipping.
- Storage costs: Proper storage for your gold, whether at home in a safe or at the bank in a safety deposit box, or even with a custodian, can result in some extra costs.
As you can see, many of these fees don’t apply to ETFs. That said, you’ll generally pay an annual management fee (expense ratio) as long as you keep your account open.
Liquidity
One of the biggest differences between physical gold and ETFs is the way you can offload it.
With physical gold, you’ll have to find a buyer, receive a quote, and agree on a price. This can take time, which means you won’t be able to instantly turn your gold into cash. You may also face things like shipping delays. If you’re trying to liquidate quickly, you may not have the luxury of shopping various dealers and end up settling for a price considerably below spot.
A gold ETF is far less cumbersome, as it can be traded like stocks. When the market is open, you can sell it in seconds through your brokerage. Additionally, the spread between the bidding and asking prices tend to be much smaller.
Storage and security
Again, physical gold requires storage—by you or by a gold company.
While storing gold yourself can be an inconvenience, this is actually a category where physical gold shines. That’s because you’re not trusting any company to remain solvent; you’ve got the gold in your own hands, and you rely on nobody else to care for it.
With a gold ETF, you won’t have to worry about the cost of storage or the nightmarish situation of a break-in. However, you’re relying on your fund’s custodian and brokerage to keep your investment safe, which means anything from fraud to mismanagement to a market disruption could have a big negative effect.
Who should buy physical gold?
Physical gold is a better fit for those who want an off-the-grid investment that can’t be undermined by a company misstep, bank run, etc. You should be confident that you can better protect the gold yourself and make a conscious choice that you don’t mind paying the extra costs to store it. You should also be at peace with the lengthier liquidation time associated with shopping your gold around. All to say, physical gold is best for those who plan to keep it long-term.
Who should buy a gold ETF?
A gold ETF is better for those who want gold exposure but don’t want to own and handle the metal itself. You don’t want to be bothered with storing, shipping, or insuring it. You may simply be looking for an alternative investment through your brokerage or retirement account. Also, gold ETFs are good for those who want to be able to buy and sell gold instantaneously. Those interested in gold trading (routine buying and selling) will much prefer gold ETFs to physical gold.
The takeaway
Both physical gold and gold ETFs have unique benefits (and disadvantages) as an investment. Physical gold gives you more control, while ETFs provide more convenience.
You may even decide to invest in both. These two investments are not an either-or choice. There’s no harm in purchasing physical gold for safe keeping with additional exposure through an ETF. Just keep in mind that experts typically recommend precious metals comprise no more than 15% of your portfolio.
Frequently asked questions
Are gold ETFs safer than holding physical gold?
Gold ETFs are not automatically “safer” than holding physical gold. There are different kinds of risk involved with each. For example, an ETF depends on middlemen (think custodians that hold the gold and the firm that manages your account). The risk of holding physical gold is that it can be stolen—something that can’t happen to an ETF.
Do gold ETFs perform as well as physical gold over time?
Gold ETFs and physical gold aim to track the same thing: the current price of gold. Their performance will generally be very similar. The differences you’ll find are in things like costs (annual ETF account fees, physical gold storage and insurance, etc.), as well as spreads when buying or selling.
Which is more liquid: physical gold or a gold ETF?
A gold ETF is more liquid than physical gold. That’s because it trades instantly like a stock with transparent pricing. Physical gold requires you to find a buyer, receive a quote, and physically transfer the metal.
Should beginners start with physical gold or a gold ETF?
In general, a gold ETF is the more beginner-friendly gold investment. The entire process involves comparatively less friction than buying physical gold, as you won’t have to ship it, store it, and insure it.
How much of my portfolio should be in physical gold vs. gold ETFs?
Experts typically recommend keeping precious metals to a maximum of 15% of your total portfolio.
