Large declines with no income to cushion them, a running charge on an asset that pays nothing, a roll cost that hides inside a price - and in the United States, three wrappers around the same metal taxed three different ways.
12 min read · Level 3
There is a version of the case for commodities that treats the costs as friction - real, regrettable, and separate from the investment itself. I think that gets it exactly backwards, and the example in this lesson is why. A holder who was directionally right, sat through a 35% decline without flinching, and sold into a 15.00% price rise finished with 3.5201% over five years. The costs were not friction around the investment; they were most of the investment. And every one of them was a published number available before the first purchase: a dealer premium on a website, a storage rate on a schedule, a selling discount you can ask for today, a tax treatment in a public document. Compare that with what the holder had to be right about - the direction of a globally traded physical good over five years - which nobody can know. The strange thing is how the effort divides. Almost all of it goes to the unknowable half, and the half that is published, exact and larger is dealt with in a sentence. If I had to name the single habit that most improves outcomes in this class, it would not be a better view about supply. It would be totalling every cost into one figure before committing, looking at what that figure does to a plausible price move, and only then deciding whether the view is worth having. Quite often the total will have made the decision, and it will have made it with arithmetic rather than with a forecast.
Four risks, and the first two are the same risk arriving from opposite directions.
Large declines with nothing arriving during them. Commodity prices are driven by physical supply and demand, and both can change faster than supply can respond, which produces moves that look like equity market crises and happen for reasons that have nothing to do with markets - a new mine, a good harvest, a substitution, a recession in one industry.
What makes a decline harder to sit through here is what is not happening during it. A bond holder down 35% collects coupons on stated dates: at 4.0%, reinvested, that is 21.665% over five years arriving whatever the price does. A property owner collects rent. A commodity holder collects nothing and pays the vault, so the wait is entirely unfunded and there is no date on which anything is due.
A running charge on an asset that pays nothing. Lesson two, stated as risk rather than as arithmetic. On a 50,000 holding at 0.65% a year:
Annual charge 325.00 Over ten years, nominal 3,250.00 Compounded effect on the holding -6.3131% before any price move
A roll cost that sits inside a price rather than on a statement. Lesson three. In the contango illustrated there, a futures-based holding paid 5.4094% over a year with the spot price unchanged, and nothing anywhere recorded it as a charge. It is the largest cost in this subject and the only one that never appears as a number on any document.
A physical holding that has to be stored, insured and verified. Metal at home may not be covered by a household policy, and metal that leaves a recognised storage chain may need assaying before a dealer will buy it back at the ordinary price. Neither is dramatic; both are costs that arrive at the moment of sale, which is the worst moment for a cost to be discovered.
Then the recovery arithmetic, which applies to every asset and matters here because declines of this size are ordinary rather than exceptional:
A fall of 25% needs +33.3% A fall of 35% needs +53.8% A fall of 50% needs +100.0%
And the honest summary of all four together: this is a class where the position can be wrong for a long time, produces nothing during it, and charges you throughout. That combination is unusual and it is the strongest practical argument for the sizing discipline in lesson six.
Because the same metal, held three ways, can be taxed three different ways - and the wrapper, not the metal, is what decides it.
In the United States, the relevant distinction is not which commodity you hold but what you hold it through.
Physical precious metal is generally treated as a collectible. Long-term gains on collectibles are subject to a maximum rate above the maximum that applies to long-term gains on most other assets, so the same profit can be taxed more heavily simply because it took the form of a bar rather than a share.
A listed product that holds physical metal is frequently treated the same way, because what the holder owns is an interest in the metal itself. That surprises people who assume that anything bought through a brokerage account is taxed like a share.
Regulated futures contracts fall under a different regime again, in which gains are split between long-term and short-term treatment by a fixed proportion regardless of how long the position was actually held, and open positions are treated as if sold at the year end.
Work the difference with clearly illustrative rates. A gain of 40,000, taxed at an illustrative 20% in one wrapper and an illustrative 28% in another:
At 20% tax 8,000 net 32,000 At 28% tax 11,200 net 28,800
The difference is 3,200, which is 8.0% of the gain The higher-taxed net is 90.0% of the lower-taxed one
Neither rate is a live statutory figure and neither should be treated as one. The point is structural: an 8 percentage point difference in rate, applied to the same gain on the same metal, decided by a choice of wrapper that most buyers make on the basis of convenience.
Three things generalise beyond any one country. Tax treatment of commodities differs completely between jurisdictions - some tax them as ordinary assets, some have a specific regime for precious metals, some treat derivative positions under separate rules, and some levy a sales or value-added tax on physical purchases that does not apply to listed products at all. Every one of those rules is revised by legislation. And a physical purchase can carry a transaction tax at the point of sale, which behaves exactly like the dealer premium in lesson one: a cost paid on the way in that the price has to recover before anything has been achieved.
Every rate in this lesson is illustrative. Take the mechanism; never take the number, and confirm the wrapper question for your own country before choosing a route rather than afterwards.
This is educational information, not tax or accounting advice. Rules differ by country and change — get advice from a qualified professional in your jurisdiction before acting.
Educational, not personalised financial advice. Nothing in the Investor Academy is a recommendation to buy, sell or hold anything — what is right for you depends on your own circumstances and the rules where you live.
Sources: U.S. IRS - official tax information; UK Government - Capital Gains Tax guidance; OECD - tax policy and statistics; U.S. SEC - Investor.gov
One holder, one metal, five years, and every cost in this subject arriving in order.
They commit 50,000 to vaulted physical Metal M at a spot price of 2,000, paying a 4.0% dealer premium and 0.65% a year in vaulting and insurance.
Year one. The premium is already paid: 50,000 bought 48,076.92 of metal at spot value. Vaulting takes 312.50. Nothing arrives.
Years two and three. The spot price falls 35% to 1,300. The holding is worth 31,250.00 at spot value against the 50,000 committed. Vaulting continues at roughly 0.65% of the reduced value. Nothing arrives, and to return to 2,000 the price now needs to rise 53.8%.
Year four. The price recovers to 1,900. The holder is still below where they started, has paid four years of vaulting, and has received nothing at any point.
Year five. The price reaches 2,300 and they sell, at a 2.0% dealer discount.
Metal held at spot value 48,076.92 x (2,300 / 2,000) = 55,288.46 Less five years of carry x 0.9935^5 = 53,514.79 Less the 2.0% selling discount x 0.98 = 52,444.50
Gain on the 50,000 committed = 2,444.50, or 4.8890%
The spot price rose 15.00% over the period.
Then tax. On a gain of 2,444.50 at an illustrative 28% collectibles rate, 684.46 is owed, leaving 1,760.04 - which is 3.5201% on 50,000 over five years.
Look at what that sequence contains. A correct directional view, held with real patience through a 35% decline, over five years, on a metal whose price genuinely rose 15.00%, produced 3.5201% after everything. And every subtraction in it was knowable on the first day: the premium, the vaulting, the discount and the tax treatment.
What the sequence does not contain is a mistake. The holder did nothing wrong, was right about the price, and held through a decline that would have removed most people. This is simply what the arithmetic of this class does to a modest correct view, and it is why lesson six has to make the case on something other than the expected return.
Sizing a position on the assumption that something will arrive during a decline. Nothing does. A bond in a comparable fall pays 21.665% over five years at a 4.0% coupon while you wait; here the vault charges you instead, and the wait is entirely unfunded.
Choosing a wrapper on convenience and discovering the tax treatment afterwards. In the United States the same metal can fall under collectibles treatment, under the rules for a product holding physical metal, or under the separate regime for regulated futures contracts. An 8 percentage point difference in rate on a 40,000 gain is 3,200, decided by a choice most people make in a few seconds.
Ignoring a transaction tax on physical purchases. In some jurisdictions a sales or value-added tax applies to buying physical metal and does not apply to a listed product. It behaves exactly like the dealer premium: paid on the way in, and the price has to recover it before anything has been achieved.
Treating the roll as smaller than the fee because the fee is written down. In the contango of lesson three the roll cost 5.4094% over a year against a 0.75% fee. The number that appears on no document was more than seven times the number that appears on every document.
Storing metal outside a recognised chain without knowing what that costs at sale. A bar that has left professional custody may need assaying before a dealer pays the ordinary price for it. The charge is modest and it arrives at the moment of sale, which is the worst moment to meet a cost you had not counted.
Applying any rate in this lesson to your own position. Every one is illustrative, no country's system works exactly this way, and the wrapper question in particular has to be answered locally before the route is chosen.
The value of the holding, the carry you would still be paying, the fact that nothing arrives, and the 53.8% rise required to get back. Doing this while nothing is happening is the only way it gets decided calmly, and it is the arithmetic that sets a sensible position size.
Entry premium or spread, annual carry or fee, roll if the route has one, exit discount, and any transaction tax. Over the five years in this lesson those took a 15.00% price rise down to a 4.8890% gain before tax. One figure, computed once, at the start.
Physical metal, a product holding physical metal, a futures-based product and producer shares can each be treated differently, and the difference is not small - an illustrative 20% against 28% on a 40,000 gain is 3,200. This is a question for a local source or an adviser, asked before the purchase rather than at the sale.
A dealer's current buying price rather than the spot price, whether your storage arrangement is one they recognise, whether assaying would be needed, and how long payment takes. For a listed product, the spread and the settlement period. Establish it now, not when you want the money.
Purchase price, premium, any transaction tax, every year of storage, and the date of each. A gain is computed against a cost, and the cost is the whole of what you actually paid rather than the spot price on the day. This is a few minutes at the time and a genuine problem years later.
Before committing to any route in this class, when choosing between wrappers for the same commodity, when sizing a position that could fall by a third, and before a sale, so the tax treatment is known rather than discovered.
Do not apply any figure in this lesson to your own position - every rate is illustrative and no country's system works exactly this way. And do not let a tax charge prevent a sale that is right on investment grounds; a charge is the cost of a correct decision.
The route into a commodity is very often decided by whatever the holder's existing platform offers most prominently, and the decision takes a few seconds because all the options appear to deliver the same exposure. The tax consequence of that choice is typically encountered years later, at the sale, when the treatment turns out to depend on what was held rather than on what it tracked. Because the difference is a rate applied to the whole gain rather than a fee applied annually, it is frequently larger than every explicit cost of the holding combined - and unlike those costs, it cannot be reduced afterwards by moving to a cheaper product. The information required to avoid it was public throughout and specific to the country the holder lives in.
Decide the tax wrapper before the route, not after. It is the one cost in this class that is fixed at purchase and cannot be corrected later.
Holders comparing commodity products reliably compare the annual fee, because it is stated prominently, expressed as a percentage, and easy to rank. The roll cost is none of those things: it is the difference between two published prices at a moment when no transaction appears to have occurred, it varies with the curve, and no document totals it for the year. In the curve illustrated in this subject it ran at more than seven times the fee that every buyer did compare. What makes the pattern durable is not that the information is hidden - the dated prices are published and the roll schedule is in the documentation - but that one number is presented as a cost and the other is not presented as anything at all.
Compare costs by what they take, not by what is labelled as a charge. In this class the largest subtraction is never labelled.
Create a free account to read the rest and apply it to your own investing.