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Wednesday, January 30, 2013 - 13:00
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Thursday, January 31, 2013 - 08:29
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Wednesday, January 30, 2013 - 13:00

Analyst Favorites of the Metals Titans: Carpenter Technology Corp. Ranks As a Top Pick

Wednesday, January 30, 2013 1:00 PM

It's no news that gold has been one of the hottest investments in the past decade. With the dollar on a steady decline, gold has gained more than 500% in the past 12 years, crushing the S&P 500's paltry 12% return. Take a look at the meteoric gains below. Anyone who's invested in the yellow metal has made a lot of money...

And the trends that have been driving gold higher in the past 12 years are still well in play.

The U.S. dollar continues to depreciate under heavy stimulation from the Federal Reserve and lingering trade deficits. And the world still views gold as a safe haven against inflation and social instability, with political events in Europe and the Middle East fueling more demand.

But owning bullion is unrealistic for most investors. Not only is it incredibly difficult and dangerous to store bullion, but it's also capital-intensive at $1,650 an ounce.

That's why many investors, including former Texas congressman Ron Paul, are focusing on gold-mining stocks.

[See also: Revealed: An Inside Look at Ron Paul's Portfolio]

Problem is, miners have performed poorly in the past two years, as they are vulnerable to the whims of the stock market more than underlying gold prices, leaving most investors with big losses as you can see in the chart below...

As you can see, although precious metals keep jumping higher each year, investing in gold isn't as easy as it looks.

That's why I am such a fan of an exchange-traded note (ETN) that lets investors buy gold at a 50% discount.

PowerShares DB Gold Long ETN (NYSE: DGP) seeks to replicate, net of expenses, twice the daily performance of the Deutsche Bank Liquid Commodity index - Optimum Yield Gold Excess Return. The key feature of this note is its use of 100% leverage, essentially reducing investors' out-of-pocket cost to invest in gold by 50%.

But the fact that this is a leveraged investment doesn't mean investors are at risk of tracking errors and unwanted volatility, which are a few factors that have plagued the leveraged exchange-traded fund and ETN space.

PowerShares DB Gold has an excellent track-record because contract spreads in gold are relatively tight. There isn't as much contango between front- and back-month contracts, creating less price slippage when funds roll to front months.

The second factor driving this ETN's tracking accuracy is the decision by Invesco PowerShares Capital Management to link it to a special gold index designed to decrease price discrepancies between roll months. The index is called "Optimum Yield" because it rolls to the contract with the best implied roll yield. It also includes the theoretical return of Treasury bills that would be held in a margin account.

Beyond its use of leverage and unique tracking strategy, DGP only trades for a little more than $50. This gives investors much more flexibility with strategic decisions about allocating capital into precious metals.

Buying DGP also requires no storage, just a simple brokerage account to execute a transaction. Hauling gold between different vendors and then trying to find adequate storage is expensive and time-consuming.

Cash-for-gold dealers also frequently buy and sell a few percentage points above or below market prices, gouging their customers with a lightly-veiled transaction cost. Transaction fees at discount brokerage firms to buy and sell stocks have never been lower, making the cost of buying or selling an ETN virtually inconsequential in a highly liquid and transparent market.

All of these benefits have made DGP a popular destination for investors who are looking to cash in on the bullish trend in gold. With assets under management of $450 million, DGP is one of the biggest and most successful ETNs in the market. It outperformed the S&P 500 during each of its first three years in existence from 2008 to 2011 before closing neutral in 2012. The average daily trading volume of 250,000 provides plenty of liquidity for even big institutional investors.

DBG also looks like a great deal, with an expense ratio of 0.75%, safely below its category average of about 1%.

Risks to Consider: This is an unsecured financial instrument offered through Deutsche Bank. If Deutsch goes bankrupt, like the Lehman Brothers, then investors lose everything. By using leverage, investors also increase their risk as a percentage of invested capital.

Action to Take --> Investing in DBG is a great way for investors to beef up their precious metal holdings while cutting their out-of-pocket cost by 50%, essentially buying gold for half the price. With gold being on a 12-year bull run and with projections for this trend to continue, this is not an opportunity investors should pass.

Michael Vodicka does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.