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A Better Mousetrap for Gold

PowerShares may have improved the ETF.

A recurring theme in my writing and in my portfolio management is to follow and explore new products as possible better mousetraps for existing stocks or funds I own. PowerShares may have come up with a better mousetrap for capturing the markets in gold, silver and oil.

Investors who use

streetTRACKS Gold Trust

(GLD) - Get SPDR Gold Trust Report


iShares Comex Gold Trust

(IAU) - Get iShares Gold Trust Report

for either speculation or diversification may want to open themselves to the possibility that Deutsche Bank's

PowerShares DB Gold

(DGL) - Get Invesco DB Gold Fund Report

could be an improvement on gold investing or trading.

DGL has some major structural differences from GLD and IAU. The latter two hold the physical metal in vaults. As the funds draw new assets, they buy more metal, and then store that as well. Some investors are comforted by the fact that the funds are backed by gold bars.

DGL owns no gold. It creates the exposure through the futures market, so most of its assets are in Treasury bills, which pay interest. Based on the history of interest rates, it's a reasonable bet that DGL's expenses will always be covered by the interest income and that there will be at least a little left over for the fund to pay to its shareholders.

That's not to say that DGL should be thought of as an income producer. But the potential for some interest exists, whereas GLD and IAU won't pay anything, and in fact have to sell some gold to cover their respective 0.40% expense ratios.

The biggest potential downside with DGL is the consequence of contango: rolling to a new futures contract that is more expensive than the one expiring. Deutsche Bank believes it has mitigated most of the risk by employing what it calls Optimum Yield, which allows it to select the contract that it believes is most favorable to roll forward to within the next 13 months.

This guarantees nothing. And although contango tends to be less of an issue in the

gold market

than in the energy market, I have seen contango cause some nasty surprises for oil ETF holders. Contango is less of an issue in the gold market now, but that doesn't mean it will always be so in the future. Obviously, GLD and IAU don't have to deal with this issue because they don't rely on the futures market.

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So far, DGL tracks GLD exactly (in percentage moves). It's too early in DGL's life span to know whether this will continue. It's also possible that DGL could outperform due to backwardation (the opposite condition of contango). But if the prices do continue to track each other in this manner, the interest DGL earns means it will outperform the other two funds.

DGL charges 0.54%. If it averages 4.5% in interest, investors might expect a yield of about 3.95%. To be clear, interest rates can change, so a payout is not guaranteed. But if management can demonstrate the ability to track GLD and IAU, that plus the opportunity for interest income are the strong points here. DGL is still brand-new, so it needs to prove that Optimum Yield will work, but there is visibility for this to be the better mousetrap than the current gold ETFs.

This potential outperformance also exists in the silver market between

iShares Silver Trust

(SLV) - Get iShares Silver Trust Report

and the

PowerShares Silver ETF

(DBS) - Get Invesco DB Silver Fund Report

. The dynamics that move these two ETFs are a little different, but their mechanics are similar. So anyone interested in the silver market should study DBS as well as SLV.

Last is the oil market, which I referred to above. Deutsche Bank also has a crude oil ETF:

PowerShares DB Oil

(DBO) - Get Invesco DB Oil Fund Report

. The existing products have caused some surprises because of contango. If -- and it's still a big if -- Optimum Yield can solve this problem for the oil market in DBO, investors looking to play this market should consider DBO over the other oil ETFs, after it proves itself out.

Please note that due to factors including low market capitalization and/or insufficient public float, we consider PowerShares DB Gold, PowerShares Silver ETF and PowerShares DB Oil to be small-cap stocks. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.

At the time of publication, Nusbaum was long StreetTracks Gold Trust for a client account, although positions may change at any time.

Roger Nusbaum is a portfolio manager with Your Source Financial of Phoenix, and the author of Random Roger's Big Picture Blog. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Nusbaum appreciates your feedback;

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