Commodities are things like oil, gas, grain, and metals. Gold is one of the most popular commodities traded in financial markets because it is a liquid asset, with around $130 billion traded every day.
Investors can gain exposure to gold prices through trading gold futures contracts or through spot gold trading. While both offer ways to profit from gold price movements, there are some key differences between trading gold futures and spot gold.
Gold Futures
A gold futures contract is an agreement to buy or sell gold at a specified price on a predetermined future date. Gold futures are standardized contracts that trade on exchanges like COMEX. The contract specifies the quantity and quality of the gold being traded. One gold futures contract represents 100 troy ounces of gold.
When trading gold futures, you don’t own the gold. Rather, you are speculating on gold prices. If you think gold prices will rise, you go long by buying futures contracts. If prices fall, you can short sell futures contracts. Your profit or loss when you trade gold depends on the difference between the market price when the contract expires and the price when you entered the trade.
Gold futures allow for leverage, meaning you only need to put down a small initial margin deposit to control a much larger contract value. This can multiply gains but also losses if prices move against you. Futures are also marked-to-market daily so daily profits and losses are settled in cash each day.
Spot Gold
Spot gold refers to the price to buy or sell physical gold for immediate delivery. It is the benchmark price that gold futures prices are based on. Many retail precious metals dealers price their gold coins and bars based on the spot gold price plus a premium.
When you buy spot gold, you take direct ownership of the physical gold you purchase. This could be in the form of gold bars, coins, jewelry, etc. Spot gold removes the expiration dates inherent in futures contracts, allowing you to hold it as a long-term investment.
Spot gold trading also does not involve leverage, keeping risks lower. However, you do need to factor in storage and insurance costs for holding physical gold. Trading costs are higher compared to futures contracts.
Key Differences
The key differences between gold futures and spot gold include:
- Gold futures involve trading contracts representing gold, while spot gold involves taking ownership of physical gold.
- Futures offer leverage which amplifies potential gains and losses. Spot gold does not involve leverage.
- Futures have expiration dates while spot gold is held directly with no expiration.
- Futures involve daily cash settlement of profits/losses. Spot gold has higher trading costs when buying or selling.
- Futures are standardized exchange-trade contracts. Spot gold trading is done directly OTC.
In choosing between the two, futures are preferred for short-term speculation on gold prices. Spot gold is better suited as a long-term, buy-and-hold investment for portfolio diversification. Considering the differences and benefits can help you decide the optimal way to gain exposure to gold prices.
