How to buy gold to diversify your portfolio and help shield against market downturns

• Physical gold can be bought for investment in two basic ways: bullion bars or coins.
• Buying physical gold involves researching reputable dealers, understanding pricing, and shouldering storage costs.
• Alternatives to physical gold include gold stocks and funds — less "pure," but more liquid, investments.

You often hear folks talk about investing in gold. Which begs the question: Exactly how do you buy gold? And perhaps more importantly, why would anyone want to?

The short answer is that gold can be a smart way to diversify a portfolio — especially one filled with the usual investment suspects: stocks, bonds, and funds.

Not only is gold largely immune to inflation, instead hewing closely to the cost of living, but gold also serves as a hedge against economic disaster. When the rest of the stock market falls, gold often goes the other way, appreciating in value and protecting the canny investor against major losses in other financial assets.

For those reasons, many finance experts suggest investing 5-10% of your portfolio in gold, potentially going as high as 15% in times of political or economic crisis.

There's the option of investing in gold securities, but purchasing physical gold is appealing for many investors because it represents the "purest" way to invest. You own the actual, yellow metal — a commodity that can't be erased or hacked, and survives catastrophic events that destroy paper currency and/or digitized financial accounts.

Physical gold basics

For investment purposes, physical gold can be bought in two basic forms: coins or bullion.

Gold coins

Coins (sometimes called bullion or mint coins) are created and issued by the governments of different countries, specifically for the purpose of investment. That makes these coins different from collectible, numismatic ones — those in your uncle's antique coin collection.

While several nations mint them, not all gold coins are created equal as reliable investments. The most common and universally recognized ones currently in circulation are:

• the American Gold Eagle
• the Australian Gold Nugget
• the Canadian Maple Leaf
• the South African Krugerrand

Gold bullion

Bullion is gold in its bulk form. It comes in either ingots, which are pressed, or bars, which are poured, and is stamped with relevant details like purity, origin, and weight. To be traded on the market, investment gold must have a purity of 99.5%, and bullion can range in weight from quarter-ounce wafers to 430-ounce bricks.

For the novice gold investor, coins tend to be more appealing for their liquidity and ease of storage. But if you're buying in larger quantities, bullion has the advantage of lower premiums because it requires less processing than coins.

To keep gold holdings as liquid as possible, it's generally wise to purchase in smaller quantities — 10 one-ounce bars instead of one 10-ounce bar, for example — to improve your odds of finding a buyer if need be.

How to buy physical gold

Gold is priced by the troy ounce, a special unit 2.75 grams higher than a traditional ounce. The amount it's fetching on the open market is known as the "spot price."

But equipping yourself to purchase gold means knowing more than just the price. Here are some tips:

1. Know when to buy: Since the price of gold moves in opposition to the stock market, the best time to buy gold is when a recession or financial crisis is looming. That advice is so popular, however, that demand tends to shoot up in such moments, depleting gold reserves faster than they can be refilled.

So another good rule of thumb is to buy gold when things have calmed, at least temporarily — the eye of the storm, so to speak. For example, at the time of this writing, the spot price of gold is at $1,871 per troy ounce, down from a peak of over $2,000 in August 2020. But many think the long-term outlook for gold remains good, so now might be the time to jump in.

2. Understand how gold prices are determined: The price of gold is determined by the cycle of supply and demand, so if you're buying at a busy time, all that competition drives up the price. Also note that when you purchase gold, you'll be paying for the asset itself, plus a premium of 1-5%, so make sure you budget for the full amount.

3. Find the right dealer: Your regular brokerage or financial services firm probably doesn't deal in gold. Bullion is typically only sold at banks and gold dealers, while minted coins can be purchased at coin dealers, brokerage firms, and precious metal dealers as well. Wherever possible, try to purchase from a bank first, as they often offer lower markups than dealers.

Banks won't always have the exact coins or size bars you're looking for, however, so if you do turn to a dealer, do your research to find someone reputable. That means looking closely at online ratings in trade journals and sites and checking the dealer for complaints.

4. Have a storage plan: Stashing large amounts of gold in your home leaves you vulnerable to theft, so insure it, and locate an off-site storage location where you can rest assured it's protected. In fact, if you want to hold gold in an IRA account, the IRS mandates that it be stored with a metals-specialist custodian.

Downsides of physical gold

Whether bullion or coins, gold is valued for its permanency and physicality. But those aspects can be a double-edged sword. Because gold in your possession isn't invested, it can't return any dividends or interest. In fact, you will likely lose some money on it, as gold is costly to store; most commercial storage facilities will charge you between .5-2% of the value of your holdings, which can really eat away at your bottom line.

And while it'll retail its value, it won't appreciate either — unless you're lucky enough and fast enough to sell when the spot prices start to soar.

Even if you do see a spike in the price of gold that you'd like to take advantage of, your physical gold holdings are surprisingly illiquid. Selling transactions and arrangements can drag on for days or weeks. Before initiating a sale, make sure you're in agreement about who will pay for shipping and insurance costs, and ask about any potential hidden fees.

Other ways to own gold

There are other ways to scratch your gold itch, however — a plethora of financial assets that are not only easier to buy and hold, but can also appreciate in value.

First up: gold stocks, shares in companies involved in mining, refining, and other aspects of gold production. These stocks respond to movements of the price of gold. But they trade on public exchanges like other equities, with all the advantages of liquid sales and transparent prices. And of course, you can buy them through regular brokerages and trading platforms.

Then there are gold-oriented ETFs and mutual funds. These give investors a slice of a wide swath of the gold market either through investing in the precious metal itself or through shares in companies involved in gold production.

They're lower-cost, more diversified, and more liquid than individual stocks, making these funds a popular choice for the more conservative investor.

More sophisticated investors might consider purchasing an option on a gold futures contract. An option gives its owner a window in which to buy or sell a particular asset at a particular price (it's an opportunity but not an obligation). Buying an option is basically a bet at which way an asset — in this case, the price of gold — will move. Correct guesses trigger a payout. And if you guess wrong, the option just expires worthless and all you're out is the option cost.

The financial takeaway

Purchasing gold can be a great investment for those who want to hedge against an economic or socio-political collapse or a financial crisis. If you're truly worried about the apocalypse and want the purest play, you'll want to get physical with bullion or coins.

But if your goal is simply to diversify your portfolio, and perhaps gain some appreciation, gold-backed securities (stocks, funds) are likely a better option. It can be reassuring to hold a physical asset instead of an intangible share, but make sure you're getting what you want out of the investment.

Either way, the goal is to make gold work for you, not the other way around.

Related Coverage in Investing:

Gold could surge more than 90% and hit $4,000 if these two factors remain under control

A 50-year gold vet and co-creator of its largest ETF shared 2 strategies investors should be using now amid the rise to new highs — and told us why his 'bull-case scenario' hasn't yet come to pass

Buy these 5 commodities now for profits into next year as pandemic uncertainty boosts their prices and lifts gold to $3,000

What are liquid assets? A guide to the investments that are easiest to cash in, and why they're important

What is diversification? A portfolio strategy that uses a variety of investments to limit risk