Gold ETFs Still Shine in a Diverse Portfolio
Rachel Beals

According to some analysts, gold may hold the bulk of this run into 2012

Gold's appeal as a "safe" investment relative to a weaker dollar and battered global stocks lands the metal in record territory, up some 32 percent so far in 2011.

By contrast, global stocks are at their lowest in more than a year.

Factors that could keep gold's price elevated include ongoing struggles to fix European and U.S. debt burdens and signs that the global economic recovery has hit a rough patch worrisome enough to keep ultra-low interest rates in place. Investors tend to flock to gold as the dollar weakens, making "hard" currencies more attractive. Investors may also be betting that inflation, which eats away at the value of other assets, will eventually become a problem to reckon with.

"Fears about sovereign defaults and currency debasement have left many investors concerned about switching from equities into government bonds, and cash hardly looks an attractive alternative when real rates are negative. Gold has therefore been the main beneficiary of all these concerns," Citigroup analysts said in a research note issued in late August.

This surge in gold demand makes it difficult to determine whether the precious metal's price -- already over $1,900 an ounce for futures contracts -- is, in fact, too precious.

"Successfully timing a short-run gold investment is not an easy task," says Morningstar fund analyst Abraham Bailin. "When bullion prices are soaring, it's all too easy to jump on the gilded bandwagon. Gold prices soared in the early 1980s, and many speculative investors poured into the market only to lose their shirts after the price of gold collapsed."

According to some analysts, gold may hold the bulk of this run into 2012; at least three major investment banks hiked their price forecasts in August, though some do expect gold to pull back from what they see as current highly speculative levels.

Moving target.

"We think gold has enough momentum currently to travel north of $2,000 before year-end, but we caution that some volatile price moves -- both to the upside and the downside -- lie ahead," says UBS analyst Edel Tully.

French bank Societe Generale upped its fourth quarter gold forecast to $1,950, lifting its 2011 average to $1,660.

Citi pegs its 2011 forecast for spot gold to $1,590, up from its previously estimated $1,440; the 2012 forecast stands at $1,650 from $1,325 and the long-term forecast to $1,050 from $950 an ounce.

All that glitters.Retail investors largely get their exposure to gold through exchange-traded funds (ETFs). After all, it's much easier to send and store electronic trading information than heavy bricks of gold bullion. Plus, futures markets are largely dominated by large institutional investors or corporate participants. Coins can be a fun and fiscally prudent alternative, and investing volume in this category is up sharply as well, but transaction, storage, and insurance costs must be taken into consideration.

In late summer, the SPDR Gold Shares ETF (symbol GLD), passed the popular SPDR S&P 500 (SPY) to become the largest ETF measured by net assets. Net assets in the gold fund around mid-August were $76.7 billion versus $74.4 billion in the S&P 500 fund, according to data from State Street Global Advisors.

The factors behind that demand may remain in place.

Recent weak U.S. economic data raise the possibility of more help from the Federal Reserve in the form of more quantitative-easing programs that will make borrowing costs, and the dollar, remain historically low.

Continued demand for the yellow metal from the likes of Russian and Mexican central banks or for gold's increased role as a global financial system benchmark could keep upward pressure on prices. Plus, signs of inflation risk in China and other pockets of the emerging globe increase gold's appeal.

Even with those factors, gold investing warrants caution. Futures exchanges have demanded greater margin requirements, which reduced gold demand, at least on a short-term basis.

Volatility is likely.

For instance, gold pulled off its record in early September, tracking the currency markets. The Swiss franc fell the most ever against the euro after the Swiss central bank imposed a cap on the currency's exchange rate. Investors sold bullion to make up for their losses in the franc.

Still, there are benefits in diversification. Commodities like gold are generally uncorrelated to the movements of stocks and bonds. Unlike paper currencies, gold is not at the mercy of government policy. Because it cannot be easily issued or mined, its value won't decrease overnight as a currency might if the government were to significantly expand the monetary base.

"The Federal Reserve will eventually be forced to put on the brakes and mop up this liquidity through higher interest rates, but it isn't the most pressing concern. The Fed has no choice but to do all it can to preserve stability of our financial markets and worry later about the consequences of its policy," says Morningstar's Bailin. "By pushing broad anti-deflationary monetary policy, the Fed introduces vulnerability to rampant inflation in the long term. On this basis, we believe a small position in gold should be considered as an insurance policy."

Insurance comes in many forms.

Investors who are nervous that gold's price has gotten too steep might find diversification in other commodities less susceptible to financial factors -- those with consistent demand such as food or those with inelastic supply that can't easily expand to fulfill spikes in demand, including coffee and cocoa, or in metals, which have restricted supplies.

Here's a look at some of the leading gold ETFs:

SPDR Gold Shares ETF (GLD) is trading above $182, up 14 percent year-to-date. Its expense ratio is 0.4 percent, below the category average 0.5 percent.

The highly leveraged ProShares Ultra Gold (UGL) logs gains double the price of gold -- and doubles the downside.

iShares Gold Trust (IAU) is trading near $18.29, up some 14 percent year-to-date; its expense ratio is 0.25 percent.

Investors might also opt for broader commodities funds to gain some exposure to gold. iPath Dow Jones-AIG Commodities exchange-traded note (ETN), which uses the ticker DJP, is one such option. DJP tracks the futures contracts of 19 different commodities in the energy, agricultural, livestock, and metals spaces for a 0.75 percent annual fee. The ETN structure does leave investors exposed to credit risks.

The PowerShares DB Commodity Index Tracking Fund (DBC) carries a 0.85 percent annual fee. It uses a smaller sampling of 14 commodities and is more heavily weighted toward energy.

Market Vectors ETF Trust Market Vectors Gold Miners (GDX) is a way to play the performance for the NYSE Arca Gold Miners Index; it tracks gold miners not the price of gold.

For more investing insight and money advice, visit iHaveNet's Wealth section

Available at Amazon.com:

The Triumph of Value Investing: Smart Money Tactics for the Postrecession Era

The Seven Deadly Sins of Investing: How to Conquer Your Worst Impulses and Save Your Financial Future

Generation Earn: The Young Professional's Guide to Spending, Investing, and Giving Back

What Investors Really Want: Know What Drives Investor Behavior and Make Smarter Financial Decisions