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Building a Gold Investment Portfilio

Investment in gold as gold bullion and gold coinsIn the last article we took a look at how it is that an investor could take on exposure to 6 individual securities to create a level of exposure to the gold industries that would be similar to building up a portfolio consisting of equal holdings across 5 different mutual funds. The conclusion made was that these 6 securities represent the back-bone of gold mutual funds, and can be used as a back-bone for our own personalized investment portfolio that doesn’t cost expensive management fees.

From there, we can start to look at how it is that this portfolio can be further diversified to create a high-quality investment portfolio that takes advantage of world class management. That being said, remember that this article is here to serve as an example of what kind of options you have available to you as a personal investor. Talking to an adviser about investment strategies you read about online is always the best way to go.

The first step to building up an individualized gold portfolio to determine how much of it should be composed of reasonably safe assets, and how much should be built up of assets that create ‘excess’ return (ie. undervalued assets that have greater volatility, and will generally outperform the back-bone assets over an extended period of time). In general, portfolio theory suggests that we should do at least 50% of our capital into the back-bone assets in this particular situation, because of the way in which this grouping of gold stocks will actually be included in a personal portfolio that contains a variety of other assets.

From there, we can go anywhere up to 80% or 90% of the assets into this portfolio, depending on risk tolerance. Remember, these main securities will actually represent a good indication of the industry’s actual returns, and could realistically be held on their own to create reasonably measured exposure to the gold industry. Upon determining the amount of lower-risk assets to put into the portfolio, we can now differentiate our overall position from the passive mutual fund by building up the ‘excess return’ portion of the portfolio.

The second part of a personalized gold investment portfolio should be composed entirely of assets that are undervalued by the market, and presenting long-term growth potential that will exceed the market returns of the industry. As a general rule, this means that it will be composed of small, junior-producers that are developing a resource base with a great deal of potential, but require time and capital to develop. These growth stories are particularly volatile over the short term, are not particularly liquid, require a greater investment time-horizon, and require a great deal of investment expertise to identify.

That being said, if the gold industry does well over the long term, these companies will perform the best, so we want exposure to them. Since we have already minimized our portfolio costs by buying 6 back-bone securities, we can place the remaining of our funds in an actively managed specialty fund that focuses in on investing exclusively with junior production companies, and has a reputation for being directly involved with the companies they finance. These funds invest exclusively in the kinds of undervalued assets that create returns on the long term, whereas our previous mutual fund options would have simply indexed their smaller positions to a large number of potential candidates and managed the positions passively.

The end result is the creation of a portfolio that will replicate the returns of the greater mutual fund industry in the gold industry, while maintaining best-practice exposure to the expertise of world-class fund managers pursuing value and growth in the juniors space. While we still need to pay a management fee on the juniors fund, it is interesting to notice how this cost will usually balance out against the savings in the back-bone portfolio, meaning that we’ll be paying the proportionately same amount in fees, for a greater level of service.