How to Buy Gold to Diversify Your Portfolio

Gold has an emotional attachment that can make it different from other investments. It's tangible and has been considered valuable for centuries.

Some advisors recommend gold as a way to add diversification to a traditional portfolio of stocks and bonds. Why? One answer is gold's low correlation to traditional assets, which proponents say can potentially act as a hedge against systemic risk, especially during periods of stress in stock and bond markets. The chart below demonstrates how the yellow metal can see both periods of correlation as well as divergence with the stock market.

But diversification alone is not always the basis for buying gold as an investment. Plus, there's no guarantee diversification will eliminate the risk of loss.

If you're considering adding gold investments to your portfolio, you should approach the decision with the same care and consideration you give any of your financial decisions.

Traditionally, ownership of physical gold—gold coins, gold bullion bars, and gold jewelry—is one common way to invest in the precious metal. You can buy gold bars and coins from a gold dealer. When you buy physical gold, make sure it meets your preferred purity standards—not all will be pure gold, for example. Gold should come with an assay certificate that verifies the authenticity, purity, and weight of the gold.

Markups and commissions on physical gold sales can be high, and depending on where you live, you may pay sales tax on the purchase as well.

The secure storage of physical gold can also potentially be an issue. Are you willing to keep your gold products at your home, where it may be at risk of theft, fire, or natural disasters? Doing so may involve additional expenses for safes, additional insurance, alarms, monitoring, etc. Some companies offer to store your precious metal for you, and you can consider a safe-deposit box at the bank, but in both scenarios, you'll be charged a fee and may not be able to access your gold quickly if you need to sell it on short notice. Additionally, should you decide to sell your gold through a gold dealer, the resale price will likely be lower than the market price, also known as "spot price", because the dealer aim to make a profit off the buy/sell spread.

If an investor does not want to buy physical gold, investing in gold mining companies can also provide diversification to a portfolio. Gold mining companies come in two different sizes: junior and major. Junior miners are companies that are newer or more speculative, often mining unproven claims. Major miners are more established companies with production and infrastructure in place, mining on proven and sustainable claims. Both categories include publicly held companies that you can find using the stock screener on Schwab.com or the thinkorswim^® platform.

The theory behind buying gold mining stocks is if the price of the precious metal goes up, the profit margins of the companies potentially go up as well, which may be reflected in their stock prices. But the price of gold is only one component of the underlying value of these companies. Factors like geopolitics, cost of energy and labor, and even corporate governance and central banks can impact the profitability of individual gold mining firms but not necessarily the price of gold. As with any investment, it's important to do your research before investing, especially if you're a beginner.

Exchange-traded products (ETPs), such as an ETF or exchange-traded note (ETN), can offer exposure to the precious metal, but not all ETPs are alike. Some ETPs buy physical gold, while others invest in gold futures, options, and other investments, such as stocks in gold-related companies, to attempt to mirror the investment profile of owning gold. Performance can vary widely across gold ETPs, as well as expenses and fees, so make sure to conduct research before selecting a product. An ETP's prospectus will help you understand its investment objectives and the associated risks, along with expenses. You should also understand the tax implications of the ETP and be aware that some ETPs have liquidity restrictions.

When investing in gold via futures or futures options, you're using leverage to establish a position in a larger amount of the commodity than you could with just your initial margin requirement. This can be an efficient way to participate in gold price fluctuations—up or down—depending on whether you're bullish or bearish on the market.

Gold futures use the spot price of gold and may respond to market volatility. Some investors migrate to them as a possible hedge when stocks become volatile. When investing in gold futures and their options, it's important to understand the different characteristics associated with the pricing of futures and options. All futures and options have an expiration date and options are subject to time decay, which can significantly impact the value of both calls and puts. Plus, leverage works both ways. It can turn a small amount of money into a large gain, but the reverse is also true—any losses are magnified with smaller price movements, as well as the potential to lose more than your initial investment.

Investing in, or buying, gold can provide a way to add diversification and alternative assets to an investor's portfolio. However, before moving forward, consider your portfolio strategy, your personal current financial condition, and which products make sense and feel most comfortable for you, your money, and your investing objectives.