Buying Gold: What is High and What is Low?

Sep.24.08 | About: SPDR Gold (GLD)

There is nothing like the recent activity in gold, going up over $100 in just a couple of days, to reactivate interest in buying gold.

People have been interested in buying gold since the beginning of time. A simple, direct way is to buy gold and hold it, as people have been doing for thousands of years. There are costs when buying and selling, plus storage costs, making it inconvenient for many. It can also be bought for future delivery in commodities markets, but that is intimidating for an average investor who does not want to deal with low margins and wild gyrations in prices. Some buy gold coins as a way owning gold, but they are subject to wide spreads. There is also panning for gold, as was done in California in the 19th century.

In the last few years, a new type of investment was introduced, aimed at helping the "average" investor buy gold. A share in an exchange traded fund or ETF can be bought to track gold. Shares in ETFs are bought and sold during exchange hours like shares in other stocks.

Streetracks has the leader ETF (NYSEARCA:GLD), representing about 10% of the price of gold (1/10th of an ounce). They say, "The objective of the Trust is for the shares to reflect the performance of the price of gold bullion, less the Trust's expenses."

The company owns billions of dollars in gold bars held in London. To cover costs, they charge 0.4% per year (called daily shrinkage) to cover storage, insurance and administrative costs. The cost reduces the percentage of the price of gold for each share. The initial 10% percentage figure will be reduced 0.4% yearly. After 5 years, the 10% figure will become 9.8% (0.4*5 = 2% reducing the 10% starting figure to 9.8%). This is a small reduction and will not significantly reduce the 10% ratio for a number of years.

Before buying shares in any stock, it behooves each person to read and understand annual reports and other material to learn what is behind each share. In this case, the business is pretty simple, owning gold bars stored in London.

Shares in gold can be bought in other ways. Shares in companies mining gold are traded. They respond to change in gold prices but not as the immediately as a GLD ETF. Some studies show these shares can outperform the commodity price of gold. Specialized mutual funds own shares in companies in the gold business. Obviously this is a less direct way of buying gold, but may be helpful for some investors. The very adventurous can even pan for gold, but not practical for many.

Buying ETF shares are a simple and easy way to buy and sell gold. My mother, who knew little about the stock market, understood the basic idea about buying low and selling high. An ETF makes this possible. The main question becomes, what is high and what is low?

Disclosure: none