Read This Before Investing In Commodities

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I want to show you the best way to invest in gold and other commodities. But there is something you need to know...

Commodities are risky. One of the riskiest things an individual investor can attempt. 

It's estimated that 95% of individualcommodity futures traders losemoney . That means 19 out of 20 walk away with less than they started. 

You see, commodities trading is notinvesting . It's speculating that priceswill move one way or the other. That's akin to gambling in my book. 

Really, the only people that make serious money in commodities trading are thebrokers . They pocket hefty commissions from clients that speculate on gold, wheat, oil, cattle, lumber and even coffee. 

But that gravy train is ending.

Wall Street 's commodity tradingrevenues stand at just half of what they were in 2008. And the buying and selling of grains, metals, energy and other goods now accounts for a thin 6.5% slice of the overall tradingrevenue pie -- down from 30% five years ago. 

Banks used to rake in billions, not just from commissions but from their own trading book. Now, position limits and other regulationsput in place by the Dodd-Frank Wall Street Reform Act have reined in those profits. Some companies have exited the business altogether. 

The smooth, quiet trading in many hard assets last year also proved to be an obstacle. That's because speculators like extreme volatility. The wider and more erratic the price swings, the greater the trading potential. It's much harder to extract profits from a flatmarket . 

What do I think about all this? I say that futures contracts are best left to experienced pros and those who use them forhedging purposes, not sheerspeculation . Betting on whether a price moves up or down (especially over the short term) isn't investing anyway -- it's buying a lottery ticket. 

If you really want to invest in scarce natural resources such as oil and platinum, then buyshares in quality producers that own vast reserves of these critical goods.

Instead of a piece of paper, you'll haveequity ownership in a real business withtangible assets -- one that generatescash flow year after year. 

Thatcash can be used for exploration and development, for theacquisition of new properties, or simply to return to stockholders via dividends. 

One of my favorite precious metals producers, Goldcorp ( GG ) , has distributed 111 consecutive monthly payments , even in flat and declining gold markets -- you won't get that from afutures contract . 

And if underlying commodity prices do rise, then production growth andoperating leverage usually push profits (andstock prices) up even faster. Take a look at another producer, New Gold ( NGD ) , and you'll see what Imean . 

Back in 2008, the company sold its gold for $863 per ounce, from which a cost of $566 was deducted, leaving aprofit of $297. By early 2012 the price of gold had since risen to $1,575 per ounce. But New Gold's mining costs remained basically unchanged (in fact, they dropped to $543), so profit tripled to $1,032 per ounce. 

Look at it this way... an investor who bought gold or gold futures would have netted again of 83% over this period. Not bad. But New Gold converted that into a more powerful 247% increase inprofit margins ($1,032/$297).Earnings per share zoomed to $0.44 per share in 2011 from $0.12 per share in 2009, an increase of 267%.

Since 2008, shares of New Gold have jumped 1,010%.

So if you want to get the most out of every dollar increase in the price of gold, a stock like New Gold is a superioroption . 

Risks to Consider: This is not to say investing in producers is without risk. Many of these companies operate in parts of the world plagued by labor unrest, unfriendly governments and other hurdles. But, with just a little research, you can find solid producers to invest in.

Action to take -->  My advice is to steer clear of the dangerousfutures market and invest in commodities through reliable, fast-growing, low-cost producers. 



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.

© Copyright 2001-2010 StreetAuthority, LLC. All Rights Reserved.


This article appears in: Investing , Commodities

Referenced Stocks: GG , NGD

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