According to the global financial services company State Street, high net worth individuals ($250k+ investable assets) in the United States with exposure to gold rose from 20% in 2023 up to 38% in 2024! That is nearly double in just one year and is mainly driven by investor demand for a safe haven asset due to inflation concerns and market volatility.
More on how to avoid making emotional decisions when investing here:
https://www.rbcwealthmanagement.com/en-us/insights/three-ways-to-avoid-making-emotionally-charged-financial-decisions
As you might imagine, there are two main ways these investors are getting exposure to gold:
- Via physical gold purchased from local dealers and online dealers like Summit Metals.
- Via gold ETFs.
- A small percentage have gotten exposure via new gold-back cryptos (that will be covered near the end of the article).
To the uninformed investor, these options may appear to be the same thing, but I can assure you they are not! So, let’s dig in to understand the fundamental differences between physical metals & metals ETFs.
ETFs Are Just A Promise
Let’s start with the most glaring difference between physical metals and ETFs, the fact that the ETFs are a promise whereas physical metals in your hand are the real thing. What do I mean by that?
The first thing to know is that when you purchase shares in many leading gold & silver ETFs, you are not actually buying gold and silver. You are buying exposure to the price of gold and silver that the managing company holds in its vaults.
More on ETFs here: https://www.investopedia.com/terms/e/etf.asp
Although your investment is theoretically backed up by gold or silver, your ownership of the ETF (in most cases) does not give you a contractual entitlement to any physical gold or silver the ETF owns. Why is that? Because you are buying a share in a fund. There is no real transfer of ownership of the underlying asset from the fund manager to you.
Even popular physical ETFs like the Sprott physical gold ETF do not redeem shares for physical metals in all circumstances. If you read the fine print, you’ll find that they have minimum amounts you must own in order to qualify for an exchange of shares for metals. With the Sprott physical gold ETF for example, you have to own 400 oz. of gold as a minimum to redeem shares for physical gold (basically $1 million worth at today’s price). This has given rise to the popular slogan “if you don’t hold it, you don’t own it” amongst gold & silver enthusiasts.
More on the concept of “if you don’t hold it, you don’t own it” here:
https://www.goldcore.com/blog/if-you-dont-hold-it-then-you-dont-own-it-physical-metals
What has added fuel to the “if you don’t hold it, you don’t own it” argument is the fact that the issuers of the ETFs hold as much physical gold & silver as they think is appropriate. That means an ETF does not necessarily have as much gold or silver as investors have given them money to buy.
Considering how quickly money can move in and out of these ETFs, the truth is that there is almost always a mismatch between what they hold and what they should hold. A mismatch that is sometimes made worse by the risks these companies take with the gold and silver they’ve purchased with your money.
I have listed the largest gold & silver ETFs along with the companies that control them in the image below.
Link to precious metals ETF database here: https://etfdb.com/etfdb-category/precious-metals/
Taking Risks With Your Gold & Silver
When I say ETF managers are taking risks with your money, you need to know that in some cases, the gold & silver being purchased by investors is used to increase the company’s gains with no additional value for the ETF investor. These maneuvers result in extra layers of “counterparty risk” to the ETF that owners are rarely aware of.
More on counterparty risk here: https://rmegold.com/blog/counterparty-risk/
The main risk that comes to mind is ETF lending of physical metals out to miners, refiners, banks, and jewelry manufacturers. This generates extra income for the ETF as the borrower uses the metals to earn a profit (example: turn it into jewelry and sell it), and then pays back the loan with interest.
In a normal market environment, these risks are admittedly very low and result in additional cash flow for the managing company. But this practice can also cause additional mismatches between what the ETF should hold and what they actually hold. That is because the lending out of metals decreases the ETF’s physical reserves and means many ETF investors are partially holding IOUs on the gold & silver the ETF purchased. Please also keep in mind that these loans are often made to businesses and companies the real investors know little to nothing about.
More on IOUs here: https://www.investopedia.com/terms/i/iou.asp
During abnormal market conditions, this practice could theoretically lead to waves of defaults. If the companies that have borrowed the gold or silver from the ETF are unable to give it back, that creates a hole in the fund’s reserves. If the ETF’s managing company experiences losses in other parts of the market making them unable to fill the hole, that hole could end up being the ETF investor’s loss (in an extreme scenario).
Although no major ETFs have fallen victim to this yet, there are recorded instances of fraudulent storage schemes that resulted in investors paying fees for metals that didn’t exist. The most notable example is what happened with Australia’s ABC Bullion. In that case, many people who thought they were holding real gold & silver in the ABC vaults later found out they were not able to take delivery of those metals when it was requested. Why was that? There is a lot of proof to suggest they only used a fraction of the money they took in to buy metals. The rest was allegedly used to make higher risk and higher return bets on bonds and stocks.
More on the ABC Bullion situation here: https://medium.com/@themorganreport/the-gold-that-wasnt-there-abc-bullion-s-fraudulent-storage-scheme-9144eb0e681f
The sad thing about issues like this is that investors usually find out once it is already too late. And although this specific risk is admittedly low, it could be why a growing number of investors / stackers choose to take matters in their own hands by purchasing physical metals.
More from State Street’s 2024 Gold Study here:
https://www.ssga.com/us/en/intermediary/insights/2024-gold-etf-impact-study
Of course, storing metals is a concern for many people and that is why many still choose an ETF over physical metals ownership. This article is not meant to assess safety risks or pass any judgement on people who choose an ETF over physical metals for safety reasons. That said, if you choose to take custody of your metals via physical ownership, please make sure you consult resources that tell you how to safely store them and protect yourself from the risk of theft.
Price Tracking Risks Between ETFs & Metals At Spot
Another layer of risk & complication few investors are aware of when it comes to ETFs is the ETF discount. What is that? Gaps, called discounts, often open between the spot price of a commodity and the ETF it is meant to track. Yes, that’s right! When you buy a gold or silver ETF, there is no guarantee it will track the spot price of the commodity exactly.
The reasons for why these discounts appear vary. Sometimes they are connected to supply and demand imbalances, other times they are a result of the way the ETF is structured. No matter what the reason is, the fact remains that these discounts exist, and they can tangibly impact the value of a portfolio over long periods of time.
For example, on January 3rd, 2025, at market close - the spot price of Gold was up about 74% over 5 years whereas the GLD Gold ETF was up only 69% over the same period.
Gold Price & GLD ETF Price Data Links Here:
https://www.tradingview.com/symbols/AMEX-GLD/
https://www.tradingview.com/symbols/XAUUSD/
Factoring in Discount Gaps, Management Fees, and Physical Premiums
The gap of 4.5% (percentage points) shown above may not seem significant, especially when you begin to factor in physical metal premiums. That is until you consider the additional management fees for the ETF called the “expense ratio.” On the example of GLD, the expense ratio is 0.4%. That means State Street Global Advisors charges its owners 0.4% of their entire portfolio’s value each year as a maintenance fee.
If we connect the fees with the ETF discount, you can see below that an investor with $100,000 to allocate to precious metals 5 years ago would have been better off purchasing physical gold at a 2.5% premium above spot and storing it themselves. Using US Dollars as our benchmark, the physical metals would have yielded a $2,824.30 better return than owning the GLD ETF.
More on the GLD ETF here: https://www.ssga.com/us/en/intermediary/etfs/spdr-gold-shares-gld
Is There Anything Good To Say About ETFs?
Don’t get me wrong, it’s not all bad when it comes to precious metals ETFs. First off, they have made it extremely easy for money to enter and exit precious metals. That fact alone has increased investor interest in gold & silver and has driven prices up as shown in the image below.
More on Gold Price Here: https://www.macrotrends.net/1333/historical-gold-prices-100-year-chart
Moreover, it has made it easier for traders to speculate on the price of metals and earn short-term capital gains without having to involve dealers or having to pay premiums above spot. Note: I always say physical metals are for long-term insurance, not short-term capital gains.
Finally, ETFs make it easier for people to have exposure to gold & silver in their IRA. And although I am not going to dive deeper into this topic here (since I am not a tax expert), it is worth mentioning and discussing with your financial advisor.
What About Gold & Silver Cryptos?
Although I believe the future of money and assets is digital tokenization, please keep in mind that the issuers of such digital tokens today come with the same counterparty risks associated with ETFs. For that reason I am steering clear for now but I may change my opinion on that in the future.
Final Thoughts
At the end of the day, each person has to do what’s right for them. Everyone’s situation is slightly different and storing physical precious metals comes with risk and responsibility. Once again, I am not judging anyone who chooses to invest in gold or silver via an ETF.
That said, my personal preference is owning physical metals. I hope those of you reading this article who are fully in ETFs will at least consider the concerns I have flagged in this article. If you choose to remain in a metals ETF, I certainly hope you will at least consider holding a portion of your position in physical metals themselves. Why is that? Because the financial system is a lot more fragile than we like to think it is. The Global Financial Crisis (2007/2008), followed by the European Sovereign Debt Crisis (2009) showed us how quickly the entire system can start to unravel. With things even more connected today than they were in the 2000s, that risk looms larger than ever and having real money in your personal custody, even a small bit, is the best way to protect yourself from an unexpected crash.
