How to Pick a Gold Stock

Gold recently hit a record high settlement price, and considering the run it has had this year, many investors are interested in exploring ways to make the metal part of their overall strategy.

Though gold has pulled back a bit, it's still near $800 an ounce, and the bulls certainly believe another rally is just a matter of time.

Gold itself is an insurance policy against financially catastrophic events, such as a sharp decline in the dollar, the emergence of hyperinflation or geopolitical turmoil.

"You want a hedge against ... the unknowns that come along and hit you in the face," says Peter Bernstein, author of multiple finance classics, including The Power of Gold: The History of an Obsession.

He recommends that investors devote 3% to 5% of their portfolios to gold, although others suggest a range of 5% to 15%. Bernstein says that if nothing goes wrong with the economy, then gold will be a lousy investment, but if something does happen, then having exposure to the metal should pay off.

When it comes to playing the sector, there are options -- buy gold itself, pick up shares of an exchange-traded fund or mutual fund, or go long the stock of one or more miners. Here, we'll focus on how to invest in miners.

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Getting Started

Mining companies provide increased leverage to changes in the price of bullion, because a small change in spot prices is magnified greatly in earnings.

Before throwing your hard-earned cash into the shares of a miner, first find out if the company makes most of its money from mining and selling gold. Although that may sound strange, especially if a company has the word "gold" in its name, it can in fact be a bit tricky.

For instance, although Freeport-McMoRan Copper & Gold(FCX Quote) does produce gold, the overwhelming share of its revenue comes from the industrial metals copper and molybdenum.