Gold exchange-traded funds (ETFs) have revolutionized precious metals investing, making it simple for anyone to gain gold exposure through their brokerage account. These funds offer the price performance of gold without the hassles of storage, insurance, and security concerns associated with physical ownership. For most investors, gold ETFs represent the optimal way to include gold in their portfolios.
This comprehensive guide examines how gold ETFs work, compares the major funds available, and helps you choose the right option for your investment objectives.
How Gold ETFs Work
Gold ETFs are investment funds that hold physical gold bullion in secure vaults and issue shares representing fractional ownership of that gold. When you buy shares of a gold ETF, you're essentially purchasing a claim on a specific amount of gold held by the fund.
The funds aim to track the gold spot price, minus expenses. As gold prices rise or fall, the ETF share price moves correspondingly. An authorized participant (AP) mechanism keeps the ETF price closely aligned with gold's net asset value through arbitrage opportunities.
Gold ETFs typically hold physical bullion in secure vaults operated by major banks or specialized storage facilities, audited regularly to verify holdings.
Unlike futures-based or synthetic gold products, physical gold ETFs actually own the metal they represent. This structure provides straightforward exposure to gold prices without counterparty risk or rollover complexities.
SPDR Gold Shares (GLD)
Launched in 2004, GLD is the oldest and largest gold ETF, with assets typically exceeding $50 billion. Its size provides excellent liquidity, with tight bid-ask spreads and the ability to trade large positions without moving the market.
Expense Ratio: 0.40% annually
Pros: Maximum liquidity, extensive options market for hedging strategies, universally recognized by institutional investors, highly liquid shares make it easy to enter and exit positions.
Cons: Higher expense ratio than competitors, making it less cost-efficient for long-term holders. The fees add up over time, particularly for buy-and-hold investors.
GLD stores its gold primarily in HSBC's London vault, with full bar lists published daily. Each share represents approximately one-tenth of an ounce of gold. For traders and those prioritizing liquidity, GLD remains the gold standard.
iShares Gold Trust (IAU)
IAU, launched in 2005, has emerged as GLD's primary competitor and offers a compelling alternative for cost-conscious investors. While slightly less liquid than GLD, IAU's lower fees make it attractive for long-term positions.
Expense Ratio: 0.25% annually
Pros: Lower expense ratio saves significant money over time, sufficient liquidity for most retail investors, operates similarly to GLD with physical bullion backing.
Cons: Wider bid-ask spreads than GLD, though still quite narrow for typical retail trades. Smaller options market may limit hedging strategies for sophisticated investors.
For buy-and-hold investors, IAU's 0.15% annual fee advantage over GLD compounds significantly over time. On a $100,000 investment held for ten years, IAU saves approximately $1,500 in fees compared to GLD, assuming no gold price change.
Aberdeen Standard Physical Gold Shares (SGOL)
SGOL differentiates itself through Swiss storage of its gold holdings and competitive fees. For investors concerned about jurisdiction risk or preferring Swiss vaulting, SGOL provides an alternative to London-stored gold.
Expense Ratio: 0.17% annually
Pros: Lowest expense ratio among major gold ETFs, Swiss storage provides geographic diversification, reasonable liquidity for most investors.
Cons: Lower assets under management than GLD or IAU means slightly wider spreads, smaller options market, less institutional recognition.
SGOL's ultra-low fees make it particularly attractive for retirement accounts or other long-term holdings where every basis point of costs matters. The Switzerland storage location may appeal to those seeking diversification beyond UK jurisdiction.
GraniteShares Gold Trust (BAR)
BAR represents the newest entry among major gold ETFs, launched in 2017 with a focus on minimizing costs. Its competitive fee structure targets cost-conscious investors willing to accept lower liquidity.
Expense Ratio: 0.17% annually
Pros: Tied for lowest expense ratio, physically backed by gold in London vaults, gradually building liquidity as assets grow.
Cons: Smallest asset base among major gold ETFs, widest spreads which can offset fee savings on frequent trades, limited track record compared to established competitors.
Gold ETF Comparison Summary
For Active Traders: GLD offers the best liquidity and tightest spreads, making it ideal for frequent trading despite higher fees. The options market depth also enables sophisticated hedging strategies.
For Long-Term Holders: IAU or SGOL provide better value through lower expense ratios. The fee savings compound significantly over time, outweighing the slightly wider spreads for investors who trade infrequently.
For Cost Minimizers: SGOL and BAR offer the lowest expense ratios at 0.17%. SGOL has the advantage of greater liquidity and Swiss storage, while BAR continues building its asset base.
For Retirement Accounts: IAU, SGOL, or BAR make sense due to their lower ongoing costs. Since retirement accounts typically have long time horizons and infrequent trading, minimizing annual expenses should be the priority.
Tax Considerations
Gold ETFs are classified as collectibles for U.S. tax purposes, meaning long-term capital gains are taxed at a maximum rate of 28% rather than the standard 15-20% rate for stocks. This higher tax rate is a disadvantage compared to most equity ETFs.
However, gold ETFs still offer tax advantages compared to physical gold. There's no sales tax when purchasing ETF shares (unlike physical gold in many states), and you don't face the potential for higher short-term capital gains rates if you need to sell physical gold held less than a year.
For tax-advantaged accounts like IRAs or 401(k)s, the collectibles tax issue is moot since gains aren't taxed until withdrawal. This makes gold ETFs particularly attractive in retirement accounts.
Physical Gold vs. Gold ETFs
Liquidity: ETFs win decisively. You can buy or sell ETF shares instantly during market hours at prices very close to net asset value. Physical gold requires finding dealers, negotiating prices, and often paying premiums above spot price.
Storage and Security: ETFs eliminate the need for personal storage solutions, insurance, and security concerns. Physical gold requires secure storage, whether home safes, bank safe deposit boxes, or third-party vaulting services – all involving ongoing costs.
Costs: ETFs charge annual expense ratios of 0.17-0.40%. Physical gold involves premiums when buying (often 2-5% over spot), bid-ask spreads when selling (dealers typically pay below spot), and ongoing storage/insurance costs if using third-party services.
Privacy: Physical gold can be held privately, while ETF ownership creates records in your brokerage account. For those prioritizing privacy or concerned about potential government actions, physical gold has advantages.
Crisis Scenarios: In extreme scenarios (financial system collapse, government confiscation), physical gold in your possession has undeniable advantages. ETF shares represent claims on gold stored elsewhere, subject to intermediary risk.
Alternatives: Futures and Options
Gold futures provide leveraged exposure to gold prices but require active management due to contract expiration and rollover. They're best suited for short-term traders or hedgers rather than investors seeking long-term gold exposure.
Options on gold ETFs (particularly GLD) offer strategies for hedging, income generation, or expressing directional views with limited risk. Covered call writing can enhance returns on gold holdings, while protective puts provide downside insurance.
For most investors, these derivatives are unnecessarily complex compared to simply holding ETF shares. However, sophisticated investors may find them useful for specific portfolio management objectives.
Gold Mining ETFs: A Different Proposition
Gold mining ETFs like GDX (large miners) and GDXJ (junior miners) track mining company stocks rather than physical gold. They offer leveraged exposure to gold prices – mining stocks typically move 2-3x gold's percentage moves – but introduce company-specific risks.
Mining ETFs pay dividends (unlike gold ETFs) and can benefit from operational improvements independent of gold prices. However, they're more volatile and don't provide the same safe-haven properties as physical gold exposure.
A diversified precious metals portfolio might include both physical gold ETFs for stability and mining ETFs for growth potential, with allocations reflecting risk tolerance and investment objectives.
Building Your Gold ETF Position
Most financial advisors recommend a 5-10% gold allocation for portfolio diversification and risk management. Conservative investors might favor the lower end, while those concerned about inflation or financial instability might increase exposure.
Dollar-cost averaging into gold ETF positions can reduce the risk of poorly timed entries. Rather than investing a lump sum, consider deploying capital over 6-12 months through regular purchases regardless of price.
Gold's role in portfolios is primarily defensive – providing stability during equity market stress rather than maximizing returns. Evaluate gold positions based on how they improve portfolio risk characteristics rather than standalone performance.
Common Mistakes to Avoid
Overtrading: Gold is a long-term strategic holding, not a day-trading vehicle. Frequent trading incurs costs through spreads and potential short-term capital gains taxes, undermining gold's diversification benefits.
Choosing GLD for Buy-and-Hold: While GLD offers superior liquidity, its higher fees make it suboptimal for long-term holdings. Unless you need maximum liquidity, lower-cost alternatives serve buy-and-hold investors better.
Ignoring Rebalancing: As gold prices move, your allocation drifts from targets. Periodically rebalancing back to target allocations maintains your desired risk profile and can enhance returns by systematically buying low and selling high.
Viewing Gold as Growth Investment: Gold doesn't generate cash flows or earnings growth. It's portfolio insurance and a store of value, not a growth asset. Adjust expectations accordingly.
Conclusion
Gold ETFs provide an efficient, cost-effective way to include gold in investment portfolios. For most investors, they represent the optimal solution – offering gold exposure without the practical challenges of physical ownership.
Your choice among gold ETFs should reflect your priorities: GLD for maximum liquidity and trading flexibility, IAU for balanced cost and liquidity, or SGOL/BAR for lowest costs on long-term holdings. All provide reliable gold exposure backed by physical bullion.
Regardless of which ETF you choose, the key is establishing an appropriate allocation to gold within a diversified portfolio and maintaining that position through market cycles. Gold's benefits as a portfolio diversifier and inflation hedge are realized over time, not through short-term trading.
Disclaimer: This article is for informational purposes only and should not be considered investment advice. Always conduct your own research and consult with a qualified financial advisor before making investment decisions.