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Buying Gold: Avoid These Three Mistakes

Stocks in this article: GOLD ABX

Editor's note: As part of our partnership with PBS's Nightly Business Report, TheStreet's Alix Steel appeared on NBR to discuss common mistakes gold investors make. (Watch video)

NEW YORK ( TheStreet) -- Wild price swings in gold can cause investors to lose focus and lose money.

Over the past 10 years gold prices have surged from $282 to a record intraday high of $1,264 an ounce, but daily volatility can lead to big trading mistakes.

The gold market is ripe with peer-pressure buying. When gold makes a big double-digit move up or down, panicked retail investors can be tempted to either jump into the market for fear of missing the rally or to sell their positions because they don't want to be stuck owning "cheap" gold.

Word on the Street

"Most individual investors lose in the gold market because they love the chase/buy excitement," says Scott Redler, chief strategic officer at T3Live.com.

The first trick to avoid the trading frenzy is to identify your time frame and your reasons for owning gold. An investor buying gold coins as a 30-year investment will have to ignore day-to-day volatility, compared to traders who will try to capitalize on these price fluctuations.

The three most popular ways to buy gold are gold coins and bullion, gold stocks and gold exchange-traded funds.

The three money-losing mistakes many investors make are overpaying for bullion, picking bad stocks, and buying ETFs for the wrong reasons. Before you pull the trigger, find out how to avoid these common blunders.

Gold Coins and Bullion

Number one rule: Don't get ripped off.

The conventional premium on a one-ounce bullion coin is 5% to 10%. Coins typically come out of the National Mint, where they are made at a 4% mark-up; the retailer's margin is 1% to 3%.

To calculate the premium subtract the spot price of gold from the price you are being quoted, divide that number by the spot price and multiply by 100.

Like the chart shows, as of Aug. 11, 2010, a one-ounce gold bar at Kitco.com sold for $1,225.90. Using the spot price of $1,200, the bar has a 2.1% mark-up, which means that the gold price only has to rise 2.1% from current levels for you to break even on your investment.

Premiums though can reach as high as 75% or more based on the gold item. Kitco is also selling a one-tenth of an ounce gold eagle coin for $162.12, which is a 35% mark-up.

To avoid getting ripped off, first establish why you want to buy gold bullion. If you just want to own gold as a long-term investment then buy gold as close to the spot price as possible. If you want to own gold to use as money -- if you are a "survivalist" as Jon Nadler, senior analyst at Kitco.com, says -- then you need smaller gold coins, like one-tenth of an ounce, and will have to pay the premium.

Nadler's take is that an individual investor shouldn't spend more than a 10% mark-up when buying gold, but acknowledges that "everyone has their own threshold."

Where investors also tend to go astray is by buying semi-numismatic or numismatic coins, otherwise known as rare coins, which come with huge premiums that seldom recoup their value.

A good rule of thumb is to leave rare coin buying to rare coin dealers. Nadler advises that consumers interested in rare coins go to professional auctioneers like Bowers & Merena or Christie's who have experts on staff and can objectively grade the coins the same way an antique dealer would appraise goods.

If a broker tries to sell you a story with the coin like it's from the "old world and there are only a few thousand in existence," experts advise to go elsewhere.

"Don't confuse investing in gold with the things being sold as gold investments," cautions Nadler. "You want something that tracks the price of gold as close to dollar to dollar as possible."

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