How to Invest in Gold and Have It Pay You Income

Since early 2016, gold has been one of the hottest-performing commodities in the market. Gold is up nearly 25% year to date, and the reasons why should not be a surprise.

But before I get into the bullish case for gold, I must make one thing clear.

Long-time readers know that I am no basement-dwelling gold bug. I don’t hide bars in my backyard waiting for the Apocalypse, and I don’t consider gold a good long term investment.

Simply put, when it comes to investing, I look for well-run companies and nice fat dividends. That’s where physical gold falls short. It doesn’t pay a dividend.

I do, however, find one sub niche in gold to be a great way to make short and medium term profits. And in a moment, I’ll share the details.

But before we get to that, I want to make sure you’re caught up to speed on the basic case for gold.

Most investors are familiar with the basic arguments for gold — it serves as an inflation and currency hedge, performs well in low-interest environments, and is a store of value in times of uncertainty. Right now, all of these factors are at play, creating an incredibly bullish environment for the Midas metal.

What Drives The Gold Price?

One of the largest drivers for gold is that negative interest rates have become the go-to policy for countries around the world. Japan, Switzerland, Sweden and Denmark are just a few of the countries issuing debt that require the lender to pay interest. It’s a backward concept, but these negative interest rates are causing investors to flock from government bonds into hard assets such as gold. Why buy a bond and lose principal to begin with or store money in a bank account and pay interest on your deposit when you can buy gold and maintain your wealth?

The amount of negative-yielding assets has grown exponentially since 2014. Right now, close to a quarter of all the fixed-income assets in the world have a negative yield. Just check out the chart below!

Negative interest rates

Source: MarketWatch
[Click to enlarge]

When looking at the increase in negative yield assets, it is no wonder hard assets have seen such a spike in demand.

Now you might be thinking: Why didn’t gold rise in 2014 or 2015, when negative rates started becoming the norm?

Well, there is another factor we need to bring in here — the value of the US dollar.

When the dollar is strong, gold is weak.

In 2014 and 2015, the dollar became strong. This acted against the price of gold, even though negative interest rates were becoming popular.

It wasn’t until 2016, when the dollar became weaker, that gold started to gain value.

US Dollar

Source: MarketWatch
[Click to enlarge]

When the dollar began to fall, investors started scooping up gold. With added uncertainties from the global economy, such as the Brexit and other tensions between countries, investors began looking for safety by purchasing precious metals.

Gold the Hottest Commodity in 2016

It is always important to remember the many forces working on the price of gold. Right now, the biggest factors are the following:

  • The US cannot raise interest rates because the economy isn’t healthy enough
  • Countries are implementing negative interest rates in order to stimulate growth
  • Investors are weary of the economy and politics (e.g., Britain leaves the EU, so what else is going to happen?).

Even though gold has been one of the hottest commodities in 2016, I believe there is further room for growth considering all of the uncertainties in the world economy.

Here is my favourite way to get exposure to gold while earning an income payment on the side!

How to play the modern-day gold rush — and get paid!

The best way to gain exposure to gold is not by holding gold bars or bullion but rather by purchasing this unique type of company that specialises in precious metals.

If you are thinking of gold miners, you are on the right track, but this type of company is better, and I’ll show you why!

There is a little-known way that gold mining companies raise money without contacting banks, venture capitalists or other big-name miners. They are a special type of company that gives miners the money they need in return for a large percentage of the gold they excavate from the ground.

These types of companies are some of the most profitable businesses you can invest in because of the way they keep costs low while receiving precious metals at an extremely discounted rate. They are called ‘streaming’ companies (or said another way, these are precious metal royalty plays). And over the past few years, they gave investors decent returns even while the price of gold was down.

The secret behind streaming companies is they merely finance the miners and do not take on any operational risks associated with mining. They don’t worry about environmental permits or disasters, purchase new bulldozers or tend to faulty blasting situations.

They are simply a front office with a few desks that collect receipts for the mine’s haul for the day.

Streaming companies are a great investment for individual investors interested in precious metals because of their low risk profile and ability to generate returns even if the price of the underlying asset begins to fall.

Say you are interested in a certain mine because you have reason to believe there are large deposits in the ground. This particular mine is owned by Barrick Gold but was financed by a streamer. When it comes time to invest, you can put your money in Barrick OR you can invest in the streaming company that provided the funding for Barrick to start the mine.

No matter which company you choose, you will see returns associated from the mine you are interested in. However, the streamer makes the better choice for a couple of reasons. The biggest benefit in buying the streamer is that you are protected in case Barrick files for bankruptcy.

Remember, the streaming company provided the funding for Barrick in terms of debt, which means that the streamer is first in line for any collateral in case of bankruptcy. As a shareholder of the streaming company, the collateral from Barrick’s bankruptcy would contribute to the bottom line of the streaming company’s financial statements.

On the other hand, if you owned shares of Barrick, you would most likely lose all of your money.

You can see why streaming companies are so valuable!

Zach Scheidt,
For Markets and Money

Editor’s Note: This article was originally published in Daily Resource Hunter.

Markets and Money offers an independent and critical perspective on the Australian and global investment markets. Slightly offbeat and far from institutional, Markets and Money delivers you straight-forward, humorous, and useful investment insights from a world wide network of analysts, contrarians, and successful investors.

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