What it means
The defining feature of bullion is that it is bought by weight and purity, not by appearance. A one kilogram gold bar from a recognised refiner is worth essentially the same as any other bar of the same weight and fineness, which makes bullion close to a pure commodity.
Fineness is usually stamped on the bar, with 999.9 meaning 99.99% pure gold. Bullion matters in business for three quite different reasons.
Investors and central banks hold it because it has no issuer and therefore no credit risk, which is useful when confidence in currencies or banks is shaky. Manufacturers of jewellery, electronics and solar panels hold it because it is an input they must buy anyway, and locking in a price protects their margins.
The cost of owning physical metal is easy to underestimate. On top of the spot price you pay a dealer premium, typically low single digit percentages for large bars and much higher for small coins, and then you pay to store and insure it, often a fraction of a per cent of value each year.
Bullion also produces no income, so unlike a bond or a rental property it earns nothing while you wait. There is an important distinction between allocated and unallocated holdings.
Allocated bullion means specific numbered bars belong to you and are held in your name, whereas unallocated means you have a claim against the dealer's pooled stock and rank as a creditor if that dealer fails. The convenience of unallocated storage comes with counterparty risk that allocated storage avoids.
Accounting treatment depends on why the metal is held. A manufacturer records bullion as inventory and measures it under the normal inventory rules, while an investment fund is more likely to carry it at fair value with movements running through the income statement.
Either way, the balance sheet value moves with the spot price, so bullion holdings can make reported results look more volatile.
In practice
Real-world examples.
Example
A jewellery manufacturer expects a busy festive season and buys 200 troy ounces of gold bullion at $2,400 an ounce, spending $480,000 to fix its main input cost. Because the metal is bought before the design work starts, the finance team can quote retail prices with confidence. If gold rises afterwards, competitors buying at spot face a squeeze that this manufacturer avoids.
Example
An electronics assembler uses silver in connectors and buys 30,000 troy ounces at $30 an ounce, a purchase of $900,000. The metal sits in a bonded vault and is drawn down as production requires. The purchase is recorded as inventory rather than as an investment, because it will be consumed in manufacturing.
Example
A wealth manager allocates 5% of a $40,000,000 client portfolio, or $2,000,000, to allocated gold bullion as a hedge against currency weakness. The holding pays no income, so it is funded by trimming a low yielding bond position. The client accepts the storage cost as the price of holding an asset with no issuer behind it.
Formula
Calculation
Metal value = Weight in troy ounces x Purity x Spot price per troy ounce
Total purchase cost = Metal value + Dealer premium
Worked example: a family office buys 50 gold bars of 10 troy ounces each at 99.99% purity, when the spot price is $2,400 per troy ounce and the dealer premium is 3%.
Total weight = 50 x 10 = 500 troy ounces
Metal value = 500 x $2,400 = $1,200,000
Dealer premium = $1,200,000 x 3% = $36,000
Total purchase cost = $1,200,000 + $36,000 = $1,236,000
Vaulted storage and insurance at 0.5% of metal value = $1,200,000 x 0.5% = $6,000 a year
If the spot price later rises to $2,650, the metal value becomes 500 x $2,650 = $1,325,000. Against the $1,236,000 purchase cost that is a gain of $89,000, reduced to $83,000 after one year of storage and insurance charges.Case study
Seen in the real world.
Ferndale Fine Metals is an illustrative and entirely fictional independent jeweller that decided to hold bullion rather than buy gold week by week. It purchased 400 troy ounces when spot was $2,300 an ounce, paying a 4% dealer premium. The metal value was $920,000, the premium added $36,800, and the total outlay was $956,800.
Eighteen months later the owner sold the position when spot had reached $2,450 an ounce. The metal value at sale was $980,000, but the dealer bought back at 1% below spot, so the proceeds were $970,200. The realised gain was $13,400.
The illustrative lesson sits in the comparison. The spot price had risen about 6.5%, yet the actual return on the money invested was only about 1.4%, because the buying premium and the selling discount together consumed most of the movement. Bullion rewards patience and large lot sizes, and it punishes frequent trading in small quantities.
Watch out
Common mistakes.
- Comparing a bullion return to the headline spot price move and ignoring the dealer premium, the buy-sell spread and the annual storage and insurance cost.
- Assuming small coins are the cheap way in, when premiums on small units are typically far higher per ounce than on large bars.
- Treating unallocated bullion as if it were the same as owning specific bars, which overlooks the fact that an unallocated holder is a creditor of the dealer.
Questions
People also ask.
Is bullion the same as a gold exchange traded fund?
No, an exchange traded fund is a security that tracks the metal price, whereas bullion is the physical metal itself with its own storage, insurance and delivery arrangements.
Why is bullion measured in troy ounces?
Because precious metals have used the troy system for centuries, and one troy ounce is about 31.1 grams, slightly heavier than the ordinary ounce used for groceries.
Does bullion pay any income?
No, it generates no interest, rent or dividend, so the entire return depends on the price of the metal changing while carrying costs run against you.
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