How Does a Gold ETF Work?

by | Dec 27, 2020

Most investors focus their portfolios on three different categories – cash, bonds, and stocks. Even though that has proven to be efficient, other investors prefer greater diversification by adding additional investments, such as gold, silver, and other precious metals.

For decades, gold has served as a valuable asset used in various industries, from jewelry to dentistry. In times of financial instability and market crisis, gold has kept its value and outperformed other investment assets.

While there are different ways to invest in gold, one of the most popular ones include buying shares of ETF or Exchange-Traded Funds.

Keep reading to discover how a gold ETF works and how to invest in one.

What Is a Gold ETF?

ETFs have existed for more than 30 years, but their prevalence in the investment market became notable in the early 2000s. Gold ETFs became popular due to offering attractive options for investors who wanted exposure to gold and other precious methods without trading physical gold or gold stocks.

Like most funds, gold ETFs act similarly, meaning investing in one is similar to investing in a trading stock on the market. When investors opt to invest in a gold ETF, they won’t receive gold in any form but the cash equivalent. The funds that follow the gold price give investors who want to purchase gold access to the metal by holding gold contracts or bullion coins.

There are two types of ETFs: ones that track price changes the precious metal goes through and others that deal with investing in companies that produce and sell gold.

How Do Gold ETFs Work

When you want to invest in a gold ETF, the person or entity responsible is purchasing gold in the form of stocks or bullion coins. They guarantee the weight and purity of the gold, the market cost, gold price, and other essential details.

Depending on how much you’ve invested in the fund, you receive ownership of the stock or bullion. The value of your share will track the gold market price and will determine your premium.

Most gold ETFs are represented by 99.5% pure gold bars and are listed on the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE). Contrary to jewelry, the ETFs can be bought and sold at the same price.

Gold ETFs can be bought in different amounts, depending on how you prefer them. Smaller amounts are highly liquid, meaning you can sell them easily.

Investors looking to diversify their portfolio can consider ETFs. The returns are guaranteed in times of market volatility and economic instability.

Why Have ETFs Become Popular?

plant and boxes that have written etf on it

If you want to understand the popularity of gold ETFs, it is essential to know how ETF funds became so popular in the first place. They sell shares to investors and then combine the money into pools. Each fund takes the money and invests it in a particular asset. For example, gold ETFs invest in gold bullions and gold stocks.

These funds take a passive approach, meaning they make decisions based on which investments are more likely to succeed.

One of the main reasons why ETFs become popular is that they allow investors to diversify their portfolios even if they don’t have a lot to invest. For example, for $100, you can buy one share of an ETF and get exposure to thousands of investments. The risk is smaller than other investments, and there is a higher chance you’ll earn more money than buying and selling stocks or gold coins by yourself.

Another reason is ETFs protect investors from enormous losses in a single investment. The funds provide different investment possibilities, including stocks and bonds, foreign currencies, commodities, and more.

It is easy to find an ETF that matches your needs and financial goals because there are several to choose from.

Why Is Gold a Good Investment?

Gold has been considered an attractive investment dating back to the days of ancient civilizations. It was used to buy goods and services, settle debts, and finance wars. Once people started to realize its value, they began using it in coins and jewelry.

When compared to other precious metals, gold has the highest monetary attributes. It has unique features such as its shine and softness, is difficult to counterfeit, and is easy to sell.

How to Invest in a Gold ETF?

Gold ETFs trade on the market of the National Stock Exchange, like other stocks. To buy and sell shares, you will need a trading account with a licensed share broker and a personal Demat account. You can buy at regular intervals or a lump sum, depending on your preference. There is no minimum limit as to how much you have to invest.

Here is what to do to start investing in gold ETFs:

  • Open an online Demat and trading account.
  • Log in to the broker’s website and enter the trading portal by using your ID and password.
  • Choose the gold ETF you want to buy.
  • Place the order by selecting a specified number of Gold ETF units.
  • The system will debit your bank account.
  • Units are transferred to your Demat account on trade day.

Before finalizing your purchase, there are some points you need to consider. Since gold ETFs have commission or brokerage charges of up to 1% (the charges vary between 0.5% and 1%), it is essential to find a stockbroker who charges a smaller percentage. Keep a tab on the gold price before investing in an ETF and sell it later when the market prices increase.

Gold ETF Costs

Gold ETF funds have specific charges associated with the services they offer. The expense ratio for fund management is around 1%, which is less than other funds. The second charge is the broker commission, charged whenever you buy or sell your shares in the fund, and the third is the tracking error, which may have a significant effect on your returns.

Before investing, talk to your broker about the possible charges so you can make well-informed decisions about where and how much to invest.

Choose the Right ETF

You have more than ten gold ETFs to choose from. Based on your financial goals and budget, choose a fund that will meet your needs. Keep an eye on trading volumes and tracking errors; it is best to select a fund that has a higher trading volume and lower tracking error.

Taxation

Gold ETFs are a tax-friendly investment. The money you earn from these funds gives you capital gains, which aren’t susceptible to taxation. If the units are held for less than three years, they are transferred to your income and are taxed accordingly.

Who Should Buy Shares in Gold ETFs?

buy and sell dice with stock charts in the background

Gold ETFs are suitable for those looking to upgrade and diversify their portfolios. If you are interested in investing in gold and other precious metals, ETFs are one of the best ways to do it.

Investing in a gold ETF is considered a low-risk investment option and suits all types of investors – from experienced investors to beginners. Even when they are traded in stock exchanges, ETFs are a low-risk investment. People who don’t want to spend money on additional taxes or storage can consider gold ETFs.

The Benefits of Gold ETFs

Gold ETFs are often considered an attractive investment option due to the number of benefits for investors and market participants.

Flexibility

Gold ETFs can be purchased online and transferred to your Demat account. The Asset Management Company (AMC) manages the trading on the stock exchange.

Liquidity

Gold ETFs provide high liquidity. They can be traded during a trading session on the exchange market at the current prevalent price, and the broker fee and the transactional costs are less than those of physical gold.

Use of National Stock Exchange

Gold ETF investors can utilize the NSE platform to trade accordingly.

Ease of Transaction

Besides trading and listing, you can also use the NSE as security for your loans. All transactions are easy to access and process.

No Limits

Buying and selling gold on the exchange market yourself is possible, but there are certain limits and restrictions. In the case of gold ETFs, you decide the amount you want to buy and sell.

Is a Gold ETF the Right Option For You?

If you want to fulfill your long-term financial goals, investing in a gold ETF is a good place to start. It is also an attractive option for those who want to diversify their portfolios and invest in low-risk opportunities.

Whatever you decide, it is important to know how gold investments work. Learn About Gold is the one-stop destination for all who want to expand their knowledge and learn more regarding gold, general investment facts, and gold investment trends. The website provides the necessary information you need to decide whether investing in a gold ETF is the right option for you.

Besides helpful information and educational posts, Learn About Gold excels at matching people with the best gold IRA providers on the market. If you want to invest in precious metals, check out our website and see how our IRA partners can help you turn your financial goals into reality.

Contact us today for more information.

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