Physical Precious Metals Versus Their ETFs: Which Is Best For You?
Gold has been drifting higher ahead of the Greek elections this weekend with many looking to be involved in the shiny metal. The same can be said for all precious metals: silver, platinum and palladium.Your risk tolerance, capital, and access to the futures markets will determine whether you’ll play precious metals in the futures markets or not.
For the purpose of this post we will focus on the assumption that the futures market is not an option for you.
This leaves us with a choice between an ETF and the physical commodity. Everywhere you turn on the internet or television are commercials for companies touting the benefits of owning precious metals and the incredible move still to come. We are not suggesting precious metals are going up or down, but rather reviewing the different ways of owning them.
As I mentioned there are many online metal brokers, including dealer/distributors selling all kinds of gold products from coins to bars to specialty items. Going the route of owning the physical metal has an allure to it as you get to hold the physical asset in your hands. However, there are a few hidden costs you should be aware of before purchasing physical precious metals.
1) Purchasers will pay a premium on top of the spot price of anywhere from 1%-5% depending on the dealer and the amount purchased. This could be significantly higher than your broker’s commission.
2) The purchaser will need to pay to have the metal shipped to them or pay for storage in a gold vault.
3) Consideration will need to be taken in keeping your purchase safe if you are not storing it in a dealer vault. You’ll need a house safe or safety deposit box etc.
4) Liquidation fees: shipping to broker – some dealers purchase below the spot price while others offer some premium, typically no where near the premium paid on the purchase side.
Purchasing an ETF backed by the physical precious metals could have a few upsides to the purchaser over the physical metal, but again you need to be aware of what you are truly buying. We’ll use the very popular SPDR Gold Shares Trust ETF (GLD, quote) to work through some of the elements we’ll be looking at today.
Some differences that stand out right away:
1) There’s no need for storage or shipping of the metal.
2) No dealer premium.
3) The assets are reasonably safe as the ETF is backed by the physical metal.
4) GLD trades around a 10th of the spot price of an ounce of gold.
5) A few metals ETFs allow conversion of shares into the physical metal – for a fee of course.
However, there are a few elements of the ETF that need to be looked at compared to owning the physical metal.
1) Gross Expense Ratio: the overall expense of managing the ETF is currently 0.40% for GLD.
2) The Net Expense Ratio for GLD is currently 0.40%
3) The rolling cost of futures contracts: this is not the case with GLD as it owns physical gold, not futures contracts. Be sure to understand how the ETF is tracking and aligning itself to the spot price of the metal it represents.
4) Broker commissions on the buy and sell side. Look for a broker with low commissions. It’s ok to have more than one broker.
5) A holder of GLD can supplement income by a few option strategies, such as a cover call strategy.
6) Leap options can be purchased at a reduced price to the ETF to catch yearly moves.
Bottom line: Both approaches are valid depending on your individual investment styles and goals. Readers looking at holding precious metals for extended period of time, such as an investment for kids or grandkids, or those investing very large amounts of capital in the precious metals sector, may want to look at owning the physical metal to avoid management fees. That’s assuming a safe, inexpensive means of storage is available.
Readers looking at shorter time-horizons, such as those looking to use precious metals as a hedge, or who plan to go in and out of the positions several times, may want to consider an ETF approach. This approach works well if the plan is to buy in small increments over several purchases across a span of time. Look for an online broker with low commissions to help reduce cost.
One of my approaches for buying GLD is a set monthly purchase, typically the Monday after options expiration. To offset the commissions and management fees, I sell an out of the money cover call on a portion of my position and reinvest the call premium.
Source: Emerging Money