Finding The Best Gold ETF – What You Need To Know

Many investors are seeking the ability to add commodity exposure to their portfolios. This can be difficult for most home-based investors to achieve through traditional methods. Since the advent of exchange-traded funds, anyone with a brokerage account can now easily jump into the commodities market. When it comes to trading commodities, there isn’t an easier method than by utilizing commodity ETFs.

Gold

Why Invest in Gold?

In today’s uncertain economy, investors are always looking for ways to hedge against inflation and future uncertainty in the markets. There are many different commodities that offer inflation protection, namely oil, natural gas, and agriculture related commodities. Precious metals are probably the most popular of them all, with gold leading the way.

Gold is every investor’s ‘safe haven’ investment. Gold has proven time and again that it will continue to appreciate in value during economically uncertain times. But why does the value of gold go up when everything else struggles?

The answer to that question lies at the root of the problem during sour economies – inflation. Inflation is tracked by the CPI or consumer price index. As the cost of goods and services increases (because of supply and demand shifts), the CPI goes up. Inflation can rear its ugly head during down economies. But it isn’t just the increase of prices and inflation that makes gold a good investment. It is the devaluation of the dollar.

If you have kept up with the Federal Reserve in recent months (early 2012), you are well aware of the ‘quantitative easing’ going on. This easing has seen the Fed’s interest rate drop in the last few years to almost zero percent. The near zero percent interest rate by the Fed allows banks to borrow money for basically nothing and lend it out for a 3-6% return. This is a form of stimulus that the Fed participates in during recessions to spur job creation and credit flow. To lend money to the banks, the Fed has to crank up the printing presses and make new money. This dilutes the money already on the market. This is where devaluation of the dollar occurs, and while most economists don’t think the US is in any danger of hyperinflation (or the scenario where we would have to add zeros to our money every few weeks), it is hard to argue against the drag the dollar has been on currency markets the last few years.

Therefore, gold is an investment that will allow you to protect your portfolio against further dollar devaluation in the future.

It is important to note that China, among other world powers, has been shifting focus to gold and silver over investments in US Treasuries.

How to Invest In Gold

Trading gold, or any precious metal for that matter, the traditional way meant gaining access to a pit trader who would then allocate money towards the commodity. Mutual funds that have positions in copper lack transparency and are riddled with fees. ETFs allow you the ability to bypass brokers and pit traders altogether, as well as increase the transparency in your investments. Below are outlined different methods of how to invest in ETF gold options.

Note: Exchange-traded notes (ETNs) are another vehicle to gaining gold exposure, but involve different credit-associated risks.

There are two categories of gold ETF (or ETN) investments:

  • Direct
  • Indirect

Investing directly in gold utilizes ETFs or ETNs that track an index, gold contract futures, or physical gold holdings. This is what commodities investing is all about. Indirect gold investing involves ETFs or ETNs that buy equity in companies that deal with gold production and supply, namely the mining industry. Since the revenues of these companies are directly related to the price of gold, it is a good way to indirectly ‘hold’ gold.

Below is a breakdown of the different types of gold ETFs (or gold ETNs) available.

Gold Index Funds

Index ETFs are funds that track a specific index. For example, as the Market Vectors Junior Gold Miners Index goes up or down, so do specific ETFs that track this index. Many gold benchmark ETF options track specific benchmark idecies.

Gold Futures Funds

Some gold ETFs trade in futures contracts. The gold ETF or ETN purchases the front month futures contract on the NYMEX, for example. When the front month is within 2 weeks of expiration, they will ‘roll’ the contract into the next month (or sell the position from the front month and buy positions in the next month). This ensures that your position in gold will always be ‘long.’

Leveraged Gold Funds

Leveraging is one of the great tools that often comes with ETF or ETN investing. There are many funds that attempt to double, triple, or quadruple your return. They achieve this through margin investing. For example, the Direxion Daily Gold Miners Bull 3x Shares ETF (NUGT) is leveraged 3x in an attempt to triple your return on gold prices. It is not uncommon to find a 2x gold ETF or 2x gold ETN among the different leveraged gold ETF options on the market.

Inverse Gold Funds

What if you think that the price of gold has over-reached, and you want to bet against the price of gold and make money on it? There are two ways to go about doing this. You can short a gold index ETF or ETN, which would mean that as the index price decreases, you can sell the stock short and make a profit. There are also inverse ETFs and ETNs available. These funds are basically doing the short selling for you, as they track the inverse of the index fund or price of the commodity. Leveraging can also be applied to this investing strategy (for example, you could buy a fund that tracks the inverse of the gold price or index, but triples the return of the short position).

Trading Gold ETF Options

Buying or selling call or put options for a gold ETF is another method for trading these funds. This is a great way to hedge against a future spike or severe drop in gold price, since you don’t actually have to allocate money until the strike price has been met.

Editor’s note – leveraged investing, margin investing, and options investing include substantially increased risk. Be sure you do your homework and understand exactly how you are allocating your money.

Gold ETF List Of Options

ETFS Physical Swiss Gold Shares (SGOL)

SGOL was founded in 2009 and tracks the performance of the price of gold bullion. The trust holds physical gold bullion. The Shares are designed for investors who want a cost-effective and convenient way to invest in gold with minimal credit risk. The advantages of utilizing SGOL to gain gold exposure include: minimal credit risk, flexibility and ease of investment, and low expenses. If you want an ETF that physically holds gold, SGOL might be for you.

ETFS Physical Asian Gold Trust (AGOL)

AGOL is another option of ETF that physically holds gold. AGOL tracks the price of gold bullion. The shares are designed for investors who want a cost-effective and convenient way to invest in gold with minimal credit risk. See SGOL as an alternative. AGOL and SGOL are examples of direct gold investing.

Market Vectors Gold Miners ETF (GDX)

Founded in 2006, GDX tracks as closely as possible the price and yield performance of the NYSE Arca Gold Miners Index. The fund generally normally invests at least 80% of its total assets in common stocks and American depositary receipts of companies involved in the gold mining industry. GDX is an example of an indirect ETF option, since it mostly involves equity of mining companies.

Market Vectors Junior Gold Miners ETF (GDXJ)

GDXJ is similar to GDX, but focuses on small to mid cap companies interested in gold mining and exploration. Founded in 2009, GDXJ tracks the Market Vectors Junior Gold Miners index. The fund invests at least 80% of total assets in securities that comprise the index. The index tracks the overall performance of foreign and domestic publicly traded companies of small- and medium-capitalization that are involved primarily in the mining for gold and/or silver. GDXJ is another example of indirect gold investing.

Direxion Daily Gold Miners Bull 3x Shares ETF (NUGT)

NUGT, founded at the tail end of 2010, is seeking serious returns. NUGT tracks 300% (3x) of the performance of the NYSE Arca Gold Miners Index. The fund creates long positions by investing at least 80% of net assets in the equity securities that comprise the index and/or financial instruments that provide leveraged and unleveraged exposure to the index. These financial instruments include: futures contracts; options on securities, indices and futures contracts; equity caps, collars and floors; swap agreements; forward contracts; short positions; reverse repurchase agreements; ETFs; and other financial instruments. If you are looking for a leveraged gold ETF, NUGT might be for you.

Direxion Daily Gold Miners Bear 3x Shares ETF(DUST)

DUST is basically the opposite of NUGT. Founded in late 2010 as well, DUST tracks 300% (3x) of the inverse (or opposite) of the performance of the NYSE Arca Gold Miners Index. DUST creates short positions by investing 80% of its net assets in: futures contracts; options on securities, indices and futures contracts; equity caps, collars and floors; swap agreements; forward contracts; short positions; reverse repurchase agreements; exchange-traded funds (ETFs); and other financial instruments that, in combination, provide leveraged and unleveraged exposure to the index.

E-TRACS USB Bloomberg Commodity Gold Total Return ETF (UBG)

Founded in 2008, UBG tracks the price and performance yield of the UBS Bloomberg CMCI Gold Total Return index. The fund is designed to be representative of the entire liquid forward curve of the gold contracts. The index measures the collateralized returns from a basket of gold futures contracts. It is comprised of the gold futures contracts included in the CMCI with five target maturities. UBG is an index ETF that utilizes a futures-based trading strategy.

Gold ETNs

RBS Gold Trendpilot Exchange ETN (TBAR)

TBAR tracks the RBS Gold Trendpilot index (USD). The index utilizes a systematic trend-following strategy to provide exposure to either the Price of Gold Bullion (as defined below) or the yield on a hypothetical notional investment in 3-month U.S. Treasury bills (the ‘Cash Rate’), depending on the relative performance of the Price of Gold Bullion on a simple historical moving average basis. Because TBAR is an ETN, there are credit-associated risks with this investment.

VelocityShares 3x Long Gold ETN (UGLD)

UGLD was founded near the end of 2011 and tracks the S&P GSCI Gold Index. Since it is a leveraged ETN, it seeks three times (3x) the daily return of the index.

VelocityShares 3x Inverse Gold ETN (DGLD)

DGLD, also founded near the end of 2011, tracks the S&P GSCI Gold Index, but because it is an inverse leveraged ETN, it seeks three times (3x) the inverse (or opposite) of the daily return of the index.

In Conclusion

Adding commodity exposure to your portfolio through ETF or ETN investing is a great way to add diversity, as well as inflation protection. With the many advantages of ETF trading (intraday investing, low cost, transparency of assets), you can increase your bottom line with respects to investment results.

Gold is every investor’s favorite ‘safe haven’ investment, and the recent surge of gold prices in the past few years only shows the level of uncertainty in the dollar and in the economy as a whole. If you are looking for ways to hedge against inflation and devaluation of the dollar, utilizing a gold ETF or ETN to gain exposure to this commodity is a great option. Use this information as a starting point to find the best gold ETF for your portfolio.

Disclosure

I have no positions in any ETFs or ETNs mentioned, and no plans to initiate any positions within the next 72 hours.

Disclaimer: Please remember to do your own research prior to making any investment decisions. This article is not a recommendation to buy or sell any securities or stocks, and is the opinion of the author.

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