The Not So Shiny Appeal of Gold

On a recent Top of Mind episode, the topic of gold came up. We argued that the volatility (proxy for risk) is higher for gold compared to stocks. While we don’t mind volatility, there should be a pay off for the risk taken. Gold hasn’t historically rewarded investors for the risk they’ve experienced.

Gold's price can fluctuate significantly, more so than stocks or bonds. This volatility can make it difficult to predict its value and potentially lead to losses.

Going back to 2008, gold has returned +170.6% while carrying volatility of 17.32. The S&P500 during the same time frame returned +270.2% with a volatility of 15.97. At risk of stating the obvious, stocks offer better reward with less risk.

Unlike stocks that pay dividends or bonds that pay interest, gold doesn't generate any income. Your return is solely based on the price appreciation when you sell.

Who’s buying all this gold?

~49% consumption is from the jewelry industry. Indian and Chinese consumers are big populations that demand jewelry.

Investors see gold as a safe haven investment, especially during economic uncertainty or geopolitical tensions. This sector makes up about 25% of gold demand.

Central banks around the world are also significant gold buyers, adding to their reserves. This demand has been rising in recent years, accounting for over 20%. The Chinese central bank has been the biggest buyer of the group, likely hedging against a potential implosion of their real estate sector.

The remaining demand comes from various tech and other industries that use gold in their components.

The demand for bricks

Despite all this, Costco’s physical gold bars are in high demand. They are a small quantity (1 ounce) and may not be suitable for significant investment purposes. Despite Costco’s generous return policy, these gold bars are not returnable. Imagine how big the line would be if Costco did accept returns and the price of gold crashed. There’s no arbitrage opportunity here.

Then there are logistics with owning physical gold bars. There are storage costs. If you’re screaming at me that it costs nothing to store it under your pillow, I’d argue that the costs there are your comfort and risks that the gold bar could get stolen.

Then there’s the counterparty risk. I could sell a gold ETF or even a stock with little to no issues. Where do you sell gold bars? A pawn shop might take it at a discount. A broker might be able to sell it for a commission and that’s only if you own enough gold to justify the broker’s time and effort.

SPDR Gold Shares (GLD), a popular gold ETF, offers a convenient way to invest in gold, but it comes with its own set of drawbacks:

While GLD aims to track the price of gold, it doesn't perfectly mirror it. The fund incurs operational costs like storage and insurance, which are reflected in an annual management fee (around 0.4% for GLD). This fee eats into your returns slightly compared to the direct price movement of gold bullion.

Technically, you don't own any physical gold with GLD shares. You own shares in the trust that holds the gold bullion. This can be a disadvantage for some investors who prefer the tangible security of owning physical gold.

Like physical gold, GLD is considered a collectible for tax purposes. There are ways to own collectibles in an IRA but you need to jump through several hoops. Also, the best financial advice may not come from radio ads 😊

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The information provided is for educational and informational purposes only and does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor's particular investment objectives, strategies, tax status or investment horizon. You should consult your attorney or tax advisor.

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