MoundReport.com
Never Trade a Gold Stock Again!

James Mound
JMTG's Head Analyst
Nov 17, 2006

The benefits of leveraged gold futures and options over gold stock investments

Nowadays it seems like a day doesn't go by without me talking to an investor who is in gold stocks. With gold on the forefront of every analysts' and investors' minds, the tools, techniques and avenues for taking advantage of the anticipated gold rally is very important to understand. I have been on both sides of the coin, having traded gold stocks and then learning about the uses of leverage through commodity markets. Granted, commodities is a mental adjustment for the typical stock trader, and that is what often causes a stock investor to trade gold stocks rather than gold futures. This doesn't mean it is the right approach.

The main difference between stocks and commodities is leverage. In a non-margined enabled stock account, 100 shares of a $10 stock costs $1,000. If the stock rises to $11 you make 10% and if it falls to $9 you lose 10%. In commodities, however, this is not the case. Let's say you buy one gold futures contract (which is 100 ounces of gold) with gold trading at $600/ounce. This contract is worth $60,000. However, you only have to initially put up $3,000 (this figure can change from time to time) in what is referred to as good faith money in order to trade the contract. Therefore, if gold goes up 10% (to $660/ounce), you make $6,000 or 200% return on your investment! So, the same 10% price move in futures is worth 20 times what it would be worth in a stock. This is the concept behind leveraged commodity markets.

So your next question should be what happens if the market goes down 10%? This would be the negative behind leveraged markets, as your exposure is also magnified 20 times by this same leverage. This would certainly scare away the more risk averse investor, and yet there is a way to get the best of both worlds. By trading options on gold futures, you achieve the same beneficial leverage described in the above scenario, but achieve definition on the risk side. You can accomplish this by simply being a straight buyer of options or by effectively spreading options and being both a buyer and a seller (in some scenarios). Let's look at a hypothetical example to clarify.

If gold is currently at $600/ounce and you see price going to $660 between now and late February, you can purchase a $600 call option for $2,000. By being just a buyer of this option your risk is defined to your cost, and that's all. If gold goes to $200/ounce, you just lose the $2,000 plus your commission. However, if gold goes to $660 between now and late February (when the option expires) you make $6,000 minus the cost ($2,000) = $4,000 profit minus commission! That's 200% profit from a 10% move in gold. This is just one of the risk/reward scenarios you can create with options, but it offers a great example of the power of leverage with the risk control that options provide. So, why would you ever trade a gold stock ever again?

At JMTG Brokerage we offer a unique one-on-one 8 week education program to teach you futures and options from the ground up - before you trade! For a limited time we are offering this free to qualified new customers. You can speak with an account rep in our brokerage department and learn how you can join our customer option education program free of charge! Just call 1-888-744-8866 or visit us on the web at:
www.jmtgbrokerage.com.

Nov 16, 2006
James Mound
JMTG's Head Analyst
email: info@Moundreport.com

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