I have decided to purchase some gold but I’m undecided between gold bullion or an exchange-traded fund that owns physical gold. What are the pros and cons of each type of investment? And should I look at gold mining shares? The gold will be placed in a self-invested pension plan (Sipp). How much of my portfolio should the precious metal account for?

Against the current backdrop of geopolitical and financial uncertainty, buying gold can be a sensible way to hedge your other investments, writes Patrick Gordon, head of research at Killik & Co.

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Many investors perceive it to be a haven during times of market turmoil, so it can do well during financial crises. Historically, it has also traded in a way that shows a low correlation to other financial assets.

Our current guidance is for gold to make up between 3 per cent and 5 per cent of a balanced portfolio. It has been a popular commodity investment in 2016, and the price has risen by 26 per cent in the year to date.

Gold is unlike shares, bonds and property in that it does not produce income in the form of dividends, coupon payments or rent. However, holding a non-yielding asset is less of a concern right now. The central banks of Europe, the UK and Japan are constantly adding new money into the financial system in an attempt to support economic growth. They do this by buying the bonds issued by governments and some companies, creating such demand that prices of quality issuers’ bonds have risen to the point where their yield is very low or even negative.

Patrick Gordon, head of research at Killik & Co

Patrick Gordon, Killik & Co

The yellow metal also tends to shine when the US dollar is weak and in periods when “real” interest rates (nominal interest rates minus the inflation rate) are negative. The dollar could rise if the US Federal Reserve hiked benchmark borrowing costs, which could soften the gold price. The market is placing around a 20 per cent probability on an increase in November, rising to almost 60 per cent for December.

A return to normalisation of central bank policy and a series of US rate increases would lessen the attractiveness of gold, which is why we recommend it as only one portion of a diversified collection of investments.

In terms of what to buy, gold mining shares provide some exposure to the gold price, but the degree of correlation can vary. With miners, you are not only buying into the metal but taking a view on the management, operational risks and geographical location of the company that digs it out of the ground. With gold bullion, investors need to consider storage and the possible lack of flexibility in the investment. Dealers typically sell the bullion to the investor at a premium to the spot price and buy from the investor at a discount. This “spread” can vary quite widely and some dealers may also levy a transaction charge.

An easier means of gaining exposure would be to buy an exchange-traded security that tracks the gold price and is “physically backed”, meaning it owns some gold instead of using derivatives to follow an index. We often recommend the iShares Physical Gold ETC to our clients.

Ben Seager-Scott of Tilney Bestinvest

Ben Seager-Scott, Tilney Bestinvest

I’m no gold bug, adds Ben Seager-Scott of Tilney Bestinvest. Until recently I would not have advocated having a position. But there are two related factors that make it attractive now.

Investment portfolios benefit from diversification. Recently, however, the traditional asset classes of equities and bonds have broadly moved together, to somewhat stretched valuations.

This has been good for the overall value of the portfolio but not for diversification. Assets that rise together could fall together. Gold, on the other hand, has a low correlation with equities and bonds.

Gold should not be considered a haven as it can be very volatile. It is nonetheless often used to store wealth. As developed-world central banks continue to experiment with unconventional monetary policy, sending bond yields negative and causing significant fluctuations in currency markets, gold’s status as a zero-yielder with no central bank controlling its production could make it more attractive.

In terms of which instrument to use, physically-backed exchange-traded commodities, such as ETF Securities Physical Gold ETC or Source Physical Gold ETC, are low cost and easily tradable. They are backed by physical gold bars held in vaults.

Although physical gold can also be bought as gold bullion, there are stringent requirements for inclusion in a Sipp, which includes the requirement to have it stored in a secure vault, adding further to the cost and usually meaning it has to be held by a third party.

Finally, I would steer clear of gold mining equities at the moment. While it is true that they tend to act as a leveraged play on the gold price, these are still equities, meaning they tend to be even more volatile than the gold price itself. In the 2008-09 global crisis, gold mining equities fell with broader equity markets. Investors did not have diversification when they needed it most.

The opinions in this column are intended for general information purposes only and should not be used as a substitute for professional advice. The Financial Times Ltd and the authors are not responsible for any direct or indirect result arising from any reliance placed on replies, including any loss, and exclude liability to the full extent permitted by law

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