In the case of gold ETFs, the investor owns shares issued by the fund, backed in whole or in part by gold, without a claim on the physical gold. On the other hand, investors in physical gold own actual ounces of it. This specificity gives rise to a number of differences between physical gold and exchange-traded funds.
When you buy shares of exchange-traded gold funds, you pay a brokerage fee. When you buy physical gold, you owe the dealer a premium. It is true that when buying physical gold, dealers’ premiums are higher than brokers’. Of course, in addition to price, deciding which products to invest in and assessing the different types of risk we are exposed to also play an important role.
When you invest in ETF shares, you must pay an annual management fee. It currently averages 0.40%. Interestingly, if we consider an investment period of 5 years, it will be found that the accumulated management fee will reach the tax on the purchase of physical gold.
For investments in physical gold there are no such costs. As the investment in physical gold is long-term, the lack of annual management fees brings a positive result on the aggregate return at the end of the investment period. On the other hand, there are no storage costs in the gold ETF market, while investing in physical gold involves an annual storage fee if you use a bank vault.
Liquidity
It appears that physical gold is equally liquid in times of calm and crisis. This cannot be said for exchange traded funds. However, in times of banking and financial turbulence, liquidity can quickly become a problem, not least because the stock exchange can close its doors, creating a systemic risk to the financial system.
Spreads between buying and selling physical gold are also relatively small (% of face value). There is no such risk when investing in physical gold as we own the gold directly. In a situation of force majeure in the financial markets, the price of gold would rise more strongly than the share price of the ETFs, which in turn presents the risk of insolvency of the fund itself.
The Possibility To Participate
Gold ETFs have the ability to enter the market with minimal or relatively smaller amounts compared to direct investments in the physical gold market. In this situation, participation in the gold market is entirely focused on the possibility of capital gains on the shares of the fund.
There is a myth that investing in physical gold requires large sums of money. In the physical gold market, there are enough products (bars and coins) at competitive prices, the value of which is less than or close to the price of a share of GLD. In this case, entry into the gold market is direct, not indirect, as is the case with gold ETFs.
Liability And Confidentiality
Full liability to financial authorities is required when purchasing a gold ETF. In the United States, all SEC (Securities and Exchange Commission) and FINRA (Financial Industry Regulatory Authority) requirements must be met. In Europe, the main regulatory burden is in the hands of ESMA (European Securities and Markets Authority). In addition, when concluding a contract with a financial intermediary, it is necessary to provide personal data.
Trading in physical gold has its own peculiarities, depending on the specific jurisdiction. In Bulgaria, for example, every purchase of physical gold up to BGN 10,000 does not need to be declared. On the other hand, selling gold to an authorized bullion dealer involves providing personal data to the customer. It should not be underestimated that, in crisis situations, economic agents may resort to direct payment in gold due to distrust in the local currency.
Insolvency Risk Of Intermediaries
In the ETF market, there is a risk that authorized intermediaries (banking institutions, stock exchanges, treasuries, etc.) may declare insolvency or that your shares may not be liquid at any given time. If you want to insure yourself against the collapse of the financial system, holding ETF shares will not help you. Simply put, authorized intermediaries are the first to close their doors in a financial turmoil, and your assets will be locked up indefinitely. Investing in an exchange-traded fund carries the risk that the other party will default, ie file for bankruptcy. On the other hand, investing in physical gold does not involve this risk because you own the investment product directly. Of course, if you use a safe in a bank and it closes, you won’t be able to use the investment when you need it. On the other hand, in most other cases, if you store your gold elsewhere, the risk of theft is relatively higher. In practice, both investments carry their own specific risks and it is best for the investor to become familiar with these before making an investment decision.
When using gold ETFs, there is a risk of forfeiture of stored collateral as well as seizure of accounts by regulators. And in the case of physical gold there is this risk, but it is minimized. One of the most notorious cases of confiscation of physical gold was the seizure of gold from American citizens in 1933 during President Roosevelt’s administration. The state can more easily seize your assets if they are in an easily accessible and strict liability place, such as the financial system. On the other hand, holding physical gold is largely confidential.
