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Pros and cons of investing in gold

Gold Coins on Scale
Gold can be an attractive investment to some investors Getty Images

In times of market stress, investors may consider buying gold. Doing so can potentially benefit some people, depending on their financial situation and preferences. But not everyone wins from buying gold, especially when the investment is made from panicking rather than critical analysis.

"Other investors and institutions may have already done the same thing, which generally results in higher prices," said Gary Watts, VP, financial advisor at Wealth Enhancement Group. "Second, the ideal time to build and allocate a model portfolio would be in less volatile and stressful times when emotions aren't controlling decision-making. Sailors outfit and provision their boats before the storm."

That said, gold can be an attractive investment to some investors. If you're wondering if now's the right time to buy gold, or if you're considering investing in the future, then do some research via a precious metals company.

Investing in gold

In some cases, investing in gold literally means buying gold coins or bars, though that's not necessarily the most liquid, secure or easiest way to invest.

"For the average person, owning a fund (i.e., an ETF or mutual fund) that invests in gold is probably the easiest way to invest," Watts explained. "There are funds that invest in gold itself only, others that invest in a combination of metals, and others still that invest in mining operations and the like."

Choosing between these options can depend on an investor's goals, risk tolerance and current portfolio composition. Learn more about gold investments now.

For example, some investors might be inclined to stick to the stock market but want exposure to gold, and thus they could invest in equities of precious metals mining companies. These assets might also hold appeal by paying dividends.

Other investors might want to diversify their portfolios by buying a gold ETF, for example, that's backed by physical gold but doesn't require investors to actually store gold bars themselves. This type of gold purchase generally wouldn't provide dividends but the returns could come from an appreciation in value.

Pros

Under the right circumstances, buying gold can have several advantages.

  • Potential inflation hedge: As inflation rises, purchasing power decreases. So, if you have cash, you're effectively losing money. Gold, on the other hand, is often considered to be a hedge against inflation. As inflation goes up, so can the value of gold, which could be an incentive to move some cash into this precious metal. Not everyone agrees, nor does gold always rise when inflation goes up, but it could still be an investment factor. Falling real interest rates (which subtract for inflation) can correlate with rising gold prices, the Federal Reserve Bank of Chicago reports. If you can't earn much, if any, real interest from other types of assets, then gold could be more appealing.
  • Potential hedge against difficult economic conditions: In addition to potentially hedging against inflation, buying gold can potentially help investors get through difficult economic conditions, considering the price might rise during these periods. An analysis by the Chicago Fed compares gold prices to a University of Michigan study of consumer expectations. As the proportion of consumers with pessimistic expectations goes up, the price of gold is positively correlated. That doesn't mean gold will always go up when the economy looks shaky, but it could potentially help those who plan ahead.
  • Opportunity for diversification: Some investors buy gold or buy silver (or both) as they work toward building a diverse portfolio. Rather than having all of your money tied up in one asset class, spreading it around to different types of investments could potentially help you better manage risk and return. "Gold — or other precious metals — in the right allocation, can make sense in a balanced portfolio, but of course allocation always depends on a number of other factors like time horizon, investor experience, tolerance to volatility, cash flow needs, etc.," said Watts. 

Cons


While gold can help add balance and provide hedges for some investors, there are also risks to watch out for.

  • Potential long-term performance lag: While gold might outpace other assets at times, it might not hold up as well to long-term price appreciation. If you're trying to save for retirement, for example, then putting too much money into gold could hold back long-term gains if gold lags stocks. As Watts points out, the S&P 500 index has dropped more than a popular gold ETF has so far in 2022. But comparing the two on a five-year basis shows that the stock index has climbed much higher than the gold ETF during that period.
  • Fear-based decision-making: Another potential downside to gold is that there can be a tendency to turn to this asset when markets get shaky. That can cause investors to make decisions based on fear, rather than on what's best for their long-term success. "I've seen the gold question come up in every single market downturn since I started in this profession," Watts said. "Too often, retail investors or DIYers respond with emotional decisions and end up hurting themselves…Panic and hope are not strategies."
  • Complexity of adding an asset class: If you're not already familiar with gold and the precious metals asset class as a whole, then it can take time to get up to speed. Choosing this asset class over others such as traditional equities or fixed income isn't just a matter of picking which one you think will gain more. There are also considerations around risk, cash flow, taxes, etc. So, adding this asset class can also add some complexity to your investment decisions.

Bottom line

Buying gold can make sense for some investors, but it might not be something that you want to rush into. Take time to consider your options, and if you do want to invest in gold, you can figure out how that fits into your overall investment strategy. 

Speaking with a professional can also help you determine if and how gold fits into your portfolio.

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