Investment Gold: The Concept, The Spread, and Investment Allocation

Gold is one of the simplest and easiest ways to invest for a private individual. Buying and selling physical gold does not require special prior knowledge and investment experience. If you know some simple facts then you are more than capable to navigate the gold market.

This article will give an overview of the ABC’s of investing in gold and will create a rough complete picture of the basics of investing in gold. It will also explain the general concepts of the investment gold industry. The three main points to understand when starting to invest in gold are:

• What criteria does ‘investment gold’ have to meet?
• Why is it important to monitor the spread, i.e. the difference between the purchase and sale price?
• How does the distribution of purchases and diversification over time help to mitigate risks?

1) What is Investment Gold?

Gold, which is used to store and preserve value, is called investment gold. More specifically a gold product which is at least 99.5% pure gold, or higher, and which is marked by the manufacturer with the weight of the product and the gold value can be labelled investment gold.

Gold coins are also classified as investment gold. They must have a fineness of 900 (at least 90.0% pure gold) or higher. Additionally, it must be minted in 1800 or later, and it must have a monetary nominal value determined by the minting country’s central bank.

However, gold jewellery is not classified as investment gold

Individuals can choose between gold coins and plates of different sizes and different values ​​for investment. The choice between specific products could be made considering two main criteria in particular: the difference between the purchase and sale price, or spread , and the reasonable division of the entire investment into several parts. I will also talk about them below.

2) What Does The Spread Show?

Next it is important to look at the price of your gold between buying and selling. Spread shows the difference between the purchase and sale price of an investment product.

In the case of the spread, you could follow the rule of thumb – the smaller the spread , the more favourable the investment for you. The purchase-sale price difference shows the difference in percentage between the selling price of the product (usually above the market price) and the purchase price (usually slightly below the market price or equal to the market price).

For example, if the selling price of a gold coin is +3.0% of the market price of gold and the buyback price is -1.0% compared to the market price, the spread for the corresponding product is 4.0%.

This number is also a good indicator of how much the market price needs to rise in order to make a profit on your investment. A 4.0% buy-sell price difference means that if you have bought a product and the market price rises by 4%, you are at 0 point with your investment, and the further rise is profit.

As a reference, it is good to know that during the last 5 years, the price of gold in euros has risen by an average of approximately 15% per year and during the last 10 years by approximately 14% per year. This does not mean that gold has shown such growth every single year, but for long-term investing it is important to look at the average annual return in the long term.

A question may arise as to what ‘the spread’ and markup is caused by and why physical gold cannot be bought by individuals at the SPOT price. The markup, by which the price of a specific product differs from the world market price, results from production and transportation costs and, to a lesser extent, from the part on which the gold dealer covers their operating costs and earns a profit.

Why Do Different Products Have Different Spreads?

You may also wonder why different pure gold products have different spreads. For some products, the bid-ask spread can be 4%, for some products 7% and for some products even more than 20%. The differences are primarily due to production and transport costs.

For example, a 100-gram gold bar has a much lower production cost per gram than a 1-gram gold bar

This also makes the 1 gram gold bar more expensive for the end user. Also, for example, a 1-ounce coin is slightly more expensive to produce than a 1-ounce bar because coin production is a more labor-intensive process due to more intricate designs. This also affects the final price.

There are also products for which there are technically no production costs. Rather, their production costs have been incurred sometime in the past and cannot be included in the cost price of the product at the present time.

Such products are, for example, historical gold coins such as gold sovereign coins (coins that were minted in the 19th and 20th centuries and were once in circulation as money). There are also no production costs for secondary market coins, which a gold dealer may have brought back from its customers and are reselling. In the case of these products, the price is mainly regulated by the supply and demand ratio of the respective products in the market.

How Does the Supply Chain Affect the Spread?

To some extent, the spread is also affected by the length and complexity of the supply chain. If a gold bullion dealer can order products directly from the factory, such as The Royal Mint, the supply chain is minimal and the price is accordingly cheaper.

If there are more intermediaries in the supply chain, all of whom of course want to make their own profit, the final price of the product will also be higher

In general, it must also be taken into account that the transport of precious metal is usually accompanied by increased security measures. This may make its shipment from one country to another more expensive than, for example, in the case of ordinary goods.

Please note, for investment, it is recommended to choose products with a spread between 2-10%. In the case of products with a larger buying-selling price difference, it can be assumed that it is a product that is more likely to be given as a gift or has dded numismatic value.

3) How to Distribute Your Investment?

Secondly, individuals should keep in mind that the total amount invested in gold should be split up. This ensures that in the future you are able to sell back parts your investment at a time.

For example, if you want to invest approximately €8,000 at once, then at the current market price (at the time of writing approximately €2,395/oz), you could buy one 100-gram bar. However, it could be more savvy to spread the amount between the products and buy five 20-gram bars. Smaller products are a bit more expensive per gram (in this case, you would pay about 140€ more in total for smaller bars), however the distribution gives you significantly greater flexibility in the future when selling back your investment.

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In this case, you may pay a slightly higher price however you will have the opportunity to sell the gold in parts later. This helps to avoid a situation such as if you want to release a few thousand euros from the investment, but the entire amount is “locked up” in one piece.

When buying gold in larger amounts, it is also worth thinking about the fact that the investment can also be spread over time

For example, if you want to invest €100,000, when you invest the entire amount at once, you may have a slightly higher market price risk than when dividing the investment into five parts, for example, if you make five €20,000 purchases within five weeks or five months. This time distribution helps to mitigate the risks arising from fluctuations in world market prices and allows you to make an investment in a certain period of time at the average market price of a period of time.

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10g PAMP Fortuna Gold Bullion Bar

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It is worth remembering, however, that in the case of gold, as a rule, it is a long-term investment. In this case the time horizon can be 3-50 years or more (if you want to pass on the gold to future generations, for example). Therefore, in the case of a one-time purchase, it would not be worthwhile to overemphasise the risk of the market price, because over the years, the price increase evens out possible short-term declines. However, it is still worth being aware of the advantages of time allocation.

Why Do People Invest in Gold?

For millennia, gold has played an important role in the development of both finance and trade in human history. The yellow metal continues to be a relevant asset class both at the national level and in the private sector.

Why invest in gold at all? In the case of central banks, investing in gold helps to stabilise the country’s finances and spread risks. Having gold reserves also helps in certain cases to ensure greater autonomy for the state in the implementation of monetary policy. Private investors use gold investment primarily to diversify portfolio risks and protect assets in economically turbulent times. For a private person, gold has been a very good tool for protecting their assets against inflation for decades.

A good example of retention of value is a 1oz gold bullion coin. 100 years ago a gentleman could buy a tailored suit and shoes and take a lady out to dinner for an ounce of gold. Even today, you can do the same for about an ounce of gold. By comparison, the US dollar, the world’s main reserve currency, has lost about 95% of its value in the same period. When including gold into an investment portfolio, consider these three fundermental points in your investment decision.

If you have any other questions call us on +44 (0)20 4541 4145, or email us at tavex@tavexbullion.co.uk to speak to one of our experts.