The current market downturn has me thinking more about safe havens. Earlier this week I shared an overview on safe haven investing across asset classes. For each asset class, there are safe havens but the ultimate safe haven that has stood the test of time is none other than – gold. Holding part of your portfolio/net worth in gold allows your portfolio to weather the storm of a recession/depression/currency collapse etc. But in order to hold gold, one does not have to necessarily buy gold bullion as there are alternatives available to investors. This article discusses some of the options.
The reason to invest and hold gold is strong. In case of a major crisis, investors always rush to gold and hold the metal to preserve wealth. Previous civilizations and generations have been obsessed over it and current gold market is still huge with central banks buying up as much physical gold as they can. Some investors suggest that its a barbaric metal that does not serve any purpose, but history has proven otherwise.
The loose monetary policy over the past 7-8 years has inflated asset bubbles across the globe and as things stand currently, there are sure-fire signs of a global recession or even a depression. The bond market, commodity market, manufacturing market indices, global transportation market, and plenty of other economic datapoints indicate a global slowdown/recession in the coming months. With such strong headwinds facing the economy, owning part of the portfolio in gold makes a lot of sense.
Another worrying development has been the war on cash in western countries. Countries from Norway, Sweden, Denmark, Switzerland and many others are now in negative interest rate territories; and in order to avoid a bank run by the population and holding physical cash indefinitely, have turned to banning cash or forcing some form of control in order to push people to spend it (the velocity of money has collapsed in the recent years) or make risky moves in order to get a return – thus inflating more asset bubbles.
The Currency Conundrum
Gold prices in the international markets are usually quoted in US Dollars. The US$ has been on a bull run over the past few years and the trend is expected to continue. As it stands currently, gold prices have been in a downtrend in US$ terms thanks to the strength of the US currency. So, on the surface it may appear that investing in gold is a bad idea. But outside the US (and a few other select countries), most of the world’s population does not use US$ on a day-to-day basis. They use their own local currency, and the value of those currencies are falling (with a few exceptions, of course).
So, investors should always think about investing in gold in their own local currency terms and look for opportunities. It is easy to get caught up in a world of US-centric media where investors can get convinced otherwise. In my case, I live in Canada and the Canadian dollar, called the Loonie, has depreciated at an alarming rate over the past few months. The Canadian economy is a resource and service based economy, and as such the collapse of commodity price has resulted in a collapse of the Loonie. Purchasing power has fallen off way down and basic necessities such as food prices are skyrocketing. So, if we look at the performance of gold in CAD$ terms, the metal has performed pretty well. The following table shows the performance of gold in various different currencies for each year. As can be seen, gold has done pretty well for non-US investors thanks to their falling currencies or another way to look at it — gold has increased and kept value in the midst of falling currencies and purchasing powers.
The most obvious answer to own is to go out and buy either a coin or a bullion, depending on the amount you want to invest. But then, you have the problem of storing this bullion. Storing such a valuable commodity in your own house can be a recipe for disaster. The only obvious solution is to rent a bank vault and store it there – thus paying a small fee to use the vault facilities. Then, you have the problem of selling the gold bullion when you want to liquidate and shop around to find the best offer for the bullion. All this seems pretty tedious. Luckily, there are other options for investors.
Investing in Gold – Alternatives to Buying Bullion
One option to invest in gold is to actually own shares of companies that benefit when gold prices go up. The obvious choices are the gold miners, and I have discussed them in detail here. The problem with this approach is that it is not a direct investment in gold and depends more on how each of these companies are run. One company can be better than other, and equity prices may swing wildly depending on market conditions.
The second option is to own gold-backed securities, still trading on the capital markets. The major advantage here is that you have immense liquidity and transaction costs are very low. There may be some differences between each type of security and will depend on each security. Another added advantage is that these securities can be traded inside a tax-sheltered account.
As to the specific securities and which ones to pick – depends on lot of things. One of the most popular ones in the market is SPDR Gold Shares (GLD). This is a gold-backed ETF but look a bit deeper and you realize that it is simply based on paper contracts. While the company claims that its backed by gold, the gold is only redeemable by “authorized participants”, and the accuracy behind the actual physical gold held in the vaults has been called into question. Much has been written about the disadvantages of using securities like GLD for gold exposure, so I will try not to repeat, but in summary: the whole point of investing in gold is for safety, where you do not trust fiat currencies and paper contracts or take someone’s word that your money is safe with them. In case of a collapse, GLD will not be able to back it with real gold if you choose to redeem, which is the whole point of the investment anyway. So, investing using GLD is probably not the best course of action.
But luckily there are some investment vehicles that are available backed by physical bullion. I present securities that trade Canada as that is my main interest. US and International investors will need to check their local options.
In the Canadian market, there are five funds that investors can use to invest in gold. These funds are backed by physical gold bullion and can be called/redeemed anytime you choose. There is varying degree of transparency and each security should be investigated before picking one.
- Royal Canadian Mint (MNT.TO) – Royal Canadian Mint makes Canadian (and other) currencies and holds gold reserves. The mint makes some of the best/purest coins and bullion available in market. But you can also purchase an Exchange Traded Receipt (ETR) that is listed on the TSX and tracks the price of gold. There is a version of the ETR that tracks the price of gold in US$, if you choose (ticker symbol: MNT.U.TO). The management fee is 0.35%.
- Central Fund of Canada (CEF.A.TO) – Central Fund is a Calgary, Alberta based fund that holds gold bullion and provides plenty of transparency for fund holders. There is also a US version trading on NYSE (ticker: CEF) and US$ version trading on TSX (ticker: CEF.U.TO). Management fee is 0.184%.
- Sprott Physical Gold Trust (PHY.U.TO) – This tracks the price of gold, but in US$ terms. The trust fund is backed by physical bullion gold and is held at the Royal Canadian Mint. Management fee is 0.35% of NAV per annum, payable monthly.
- BMG Funds (mutual funds) – A mutual fund that is backed by physical bullion held in Scotiabank vaults. The website is not clear on what the management fee and indicates “the fees vary”, but considering that it’s a mutual fund, I imagine the fees are higher than other ETF options.
There are many ways to invest in gold as a safe haven. Investors can go and buy gold coins or bullion to own the physical asset, but that comes with the added tax of storage and paying a regular fee for a bank vault. Some investors choose the alternative method to invest via owning gold mining companies, which can give a good exposure, but the performance depends more on the company’s fundamentals and operations than the actual price movement of gold. While some ETFs exist that claim gold exposure, investors have to be careful in which ones they choose as they can be simply based on paper contracts, which goes against the fundamental reason for investing in gold. Luckily some funds provide direct exposure backed by the actual bullion with plenty of transparency and the option of redeeming the gold bullion, if you so choose.
What are your thoughts on using gold as a hedge? Do you use any in your portfolio? Share your thoughts below.
Disclosure: None. My full list of holdings is available here.