Monday, December 17, 2007

Signs of the Economic Apocalypse, 12-17-07


Gold closed at 798.00 dollars an ounce Friday, down 0.3% from $800.20 at the close of the previous week. The dollar closed at 0.6930 euros Friday, up 1.6% from 0.6822 at the close of the previous Friday. That put the euro at 1.4430 dollars compared to 1.4658 the Friday before. Gold in euros would be 553.01 euros an ounce, up 1.3% from 545.91 for the week. Oil closed at 91.41 dollars a barrel Friday, up 3.5% from $88.28 at the close of the week before. Oil in euros would be 63.35 euros a barrel, up 5.2% from 60.23 for the week. The gold/oil ratio closed at 8.73 Friday, down 3.8% from 9.06 at the end of the week before. In U.S. stocks, the Dow closed at 13,339.85 Friday, down 2.1% from 13,625.58 for the week. The NASDAQ closed at 2,635.74 Friday, down 2.7% from 2,706.16 at the close of the week before. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 4.23%, up 12 basis points from 4.11 for the week.

Last week was an eventful one for financial markets. The U.S. Federal Reserve Board cut interest rates by a quarter point, sending stocks down (traders wanted a half point cut). According to insiders, banks are in a state of panic. Analysts increasingly predict that the United States will fall into recession in 2008, and, to make it worse, inflation is rising, leading to fears of stagflation, fears that were voiced by none other than Alan Greenspan. Greenspan, formerly a hero, now haunts the world economy like the ghost of an unwelcome houseguest.

First the rate cut:

US stocks plunge on Federal Reserve rate cut announcement

Barry Grey

12 December 2007

US stocks plummeted Tuesday after the Federal Reserve Board announced a quarter-point cut in short-term interest rates and indicated in an accompanying statement that it remained concerned over the potential for an inflationary surge.

The sharply negative reaction on Wall Street, which was looking for a half-point cut in interest rates and a statement clearly giving primacy to the risks of recession and a meltdown on financial markets above inflation concerns, is a measure of the near-panic gripping big investors and some of the largest banks in the US and Europe over the implosion of the US housing market and resulting crisis on credit markets.

Immediately after the Federal Reserve Board’s Federal Open Market Committee announced its decision, at 2:15 PM Eastern Standard Time, all of the major New York stock indexes began to plunge. By the end of trading, the Dow Jones Industrial Average had fallen 294.26 points, a drop of 2.1 percent. The Nasdaq Composite Index declined by 66.60 points, down 2.5 percent, and the Standard & Poor’s 500 Index fell 38.31 points, a 2.5 percent decline.

The sharp fall on the markets came despite the fact that Tuesday’s rate cuts marked the third consecutive reduction in interest rates by the Fed since the credit crisis erupted last August. Since then, the US central bank has slashed rates by a full point, the greatest easing of borrowing costs since the recession of 2001.

The Fed cut its target federal funds rate, the overnight rate at which banks lend money to one another, from 4.5 percent to 4.25 percent. At the same time, it reduced the so-called discount rate, at which the Fed directly lends money to banks, from 4.75 percent to 4.5 percent.

These moves are aimed at cheapening the cost of loans and pumping liquidity into the credit markets. They come at a time when major banks and investment houses in both the US and Europe are reeling from massive losses resulting from the collapse of assets linked to US subprime home loans.

The depression in US home sales and prices and soaring mortgage delinquencies and foreclosures of homes purchased with high-interest subprime loans have undermined the stability of banking giants that leveraged such loans into a multi-trillion-dollar edifice of highly profitable securities that were sold to banks and other investors around the world.

According to an article in Monday’s Wall Street Journal, “Over the past decade, Wall Street built a market for more than $2 trillion in securities sold globally and backed by loans to US homeowners.” That market has come crashing down—as it was destined to do, since it was built on the most speculative and unstable of foundations.

Facing huge losses from the collapse of these investments, and unable to determine the real value of exotic securities derived from dividing up, bundling, repackaging and reselling loans—many to subprime borrowers with shaky credit, to other investors and financial institutions—the banks have sharply cut back their lending to consumers and businesses. Lending is down, its cost is rising and the result is a credit crunch that is driving the US economy into recession, with dire consequences for the global economy.

This crisis is an expression of the increasingly parasitic and speculative character of American and world capitalism. It effects are rapidly spreading throughout the US economy, with job growth slowing, consumer spending falling off, US corporate profits tending downward and rising delinquencies on all forms of consumer credit—from home loans to auto loans and credit card payments.

Most analysts are now forecasting minimal or negative economic growth in the US for the current quarter, and some are predicting the economy will fall into recession in 2008. On Monday, Morgan Stanley became the first major Wall Street bank to predict a US recession next year.

Last week, the Bush administration announced a scheme for mortgage lenders, servicers and investors to voluntarily agree to freeze interest rates for a small minority of the estimated 2 million subprime borrowers whose adjustable-rate loans are scheduled to reset sharply higher over the next 18 months.

The plan, which will do little to relieve the suffering of millions of Americans who fell victim to predatory lending practices during the housing boom, is above all aimed at buying time for the big banks and mortgage companies and reassuring financial markets that a full-scale collapse will be averted. There is, however, little likelihood that it will prevent a deepening of the credit crunch and stave off an economic downturn that could prove severe and protracted.

The Wall Street Journal carried a front-page article Monday headlined “US Mortgage Crisis Rivals S&L Meltdown,” referring to the US savings and loans collapse of the late 1980s and early 1990s that ended with a multi-billion-dollar government bailout of Wall Street. The article had a sub-headline that read: “Toll of Economic Shocks May Linger for Years; A Global Credit Crunch.”

The Journal wrote that an examination of the current crisis “shows that it is comparable to some of the biggest financial disasters of the past half-century.”

Developments this week appear to vindicate that prognosis. The Zurich-based banking giant UBS, the world’s largest provider of banking services to the wealthy, announced Monday that it was writing down the value of its subprime assets by an additional $10 billion. The bank had already taken a $4.4 billion third-quarter write-down. It issued a statement that the “ultimate value of our subprime holdings... remains unknowable.”

UBS said it would post a loss for the fourth quarter and possibly for the year as a whole. It further said it had received an $11.5 billion investment from a fund owned by Singapore and an unnamed Middle Eastern investor, equivalent to selling as much as 12.4 percent of the company in return for a cash bailout.

With the announcement, UBS became the biggest casualty outside of the US of the American housing slump, but banks in other countries, such as Britain and Germany, have also been hit by the fallout from the US housing and credit crisis.

“That UBS, long known as a conservative lender, could take such a financial hit suggests that the wave of industry write-downs, which so far total about $50 billion, may be far from over,” wrote the Wall Street Journal.

Just two weeks ago, Citigroup, the largest US bank, agreed to sell a $7.5 billion stake, 4.9 percent of the company, to the Abu Dhabi Investment Authority in order to shore up its capital base, after announcing write-downs of $8 billion to $11 billion related to bad subprime investments. The bank had already disclosed $5.9 billion in write-downs.

Merrill Lynch, which has $20.9 billion in remaining exposure to subprime-linked investments, may also need to take a further write-down, as could Morgan Stanley, according to analysts. Merrill already disclosed a third quarter write-down of $7.9 billion. Morgan Stanley has announced subprime-linked losses of $3.7 billion in the first two months of the fourth quarter, which could increase, based on its $6 billion in remaining subprime exposure.

Washington Mutual, the largest US savings and loan bank, this week widened its expected fourth quarter loss to $1.5-$1.6 billion due to deteriorating credit and mortgage markets. The S&L said it would abandon subprime lending entirely, close 190 of its 336 home loan center and sales offices as well as 9 loan and processing call centers, and cut 3,150 jobs. It also announced it would cut its dividend 73 percent to 15 cents a share.

Bank of America announced it was liquidating a money market fund for institutional investors that was worth $40 billion only a few months ago but now has only some $12 billion in assets. The bank said the losses were related to the subprime mortgage crisis.
Meanwhile, Fannie Mae, the US government-sponsored mortgage company, predicted house prices would continue to fall for two or three more years, with no normalization until 2010.

Wall Street is clamoring for a bailout by the Fed, in the form of drastic interest rate cuts, with scant concern for the medium- and longer-term implications for the status of the dollar and the position of American capitalism in the global economy. The Fed is attempting to balance the threat of a US banking collapse with the dangers arising from soaring energy, food and commodity prices and the relentless fall of the dollar on world currency markets.

The dollar has already lost a quarter of its value against all other currencies since 2002 and 40 percent against the euro, and further interest rate cuts can only push the US currency lower. The position of the dollar, which has been further undermined by the current US housing and credit crisis, is a barometer of the declining relative strength of American capitalism on the world market.

Gerard Lyons, chief economist at Standard Chartered in London, published a column in the December 7 Financial Times entitled “The Middle East Must Loosen its Ties to the Dollar.” In the article, he recommended that the oil-rich Persian Gulf regimes sharply revalue their currencies and cease pegging them to the dollar. He wrote: “The region should shift from the dollar peg to managing exchange rates against a basket of currencies of the countries with which they trade. The dollar would form a big part of this basket, but so too would the euro and Asian currencies. Over time, the dollar’s weight would fall.”

Commenting Tuesday on the bailout of UBS by Singapore and a Middle East investor, he said it was a “reflection of the current fragile state of the financial sector in the West” and “a further sign of how the balance of the world economy is changing.”

Greenspan urges policymakers to stand firm on inflation and let the chips fall where they may, even if it means an economic depression (he doesn’t use that word, of course).

Greenspan sees early signs of U.S. stagflation

December 16, 2007

WASHINGTON (Reuters) - The U.S. economy is showing early signs of stagflation as growth threatens to stall while food and energy prices soar, former U.S. Federal Reserve Chairman Alan Greenspan said on Sunday.

In an interview on ABC's "This Week with George Stephanopoulos," Greenspan said low inflation was a major contributor to economic growth and prices must be held in check.

"We are beginning to get not stagflation, but the early symptoms of it," Greenspan said.

"Fundamentally, inflation must be suppressed," he added. "It's critically important that the Federal Reserve is allowed politically to do what it has to do to suppress the inflation rates that I see emerging, not immediately, but clearly over the intermediate and longer-term period."

The U.S. central bank has lowered its benchmark interest rate three times since mid-September as a housing downturn, tightening credit conditions, and steep food and energy prices threaten to push the U.S. economy into recession.

But cutting rates can have the unwanted side effect of pushing up prices, so the Fed finds itself in a tricky position of trying to revive growth without spurring inflation.

Last week, U.S. data showed that wholesale inflation rose at the highest rate in 34 years, while consumer prices rose the most in more than two years.

Greenspan repeated his assessment that the probability of a U.S. recession had moved up toward 50 percent but noted that corporate America's debt levels were in good shape, which should help cushion the blow from tightening credit terms.

"The real story is, with the extraordinary credit problems we're confronting, why the probabilities (of recession) are not 60 percent or 70 percent," he said.

"Because of the decline in long-term interest rates for a protracted period of time, American business was able to fund a significant part of its short-term liabilities and take out low-cost, long-term debt, so the credit needs have not been all that large," he said.

Greenspan has drawn some criticism for keeping the trendsetting federal funds rate at a low 1 percent from June 2003 through June 2004, which some argue contributed to a housing bubble that is now bursting spectacularly.

Greenspan said real estate prices will stabilize only when the overhang of unsold new-construction homes begins to ease, and estimated that financial losses could be in the range of $200 billion to $400 billion as securities tied to failing subprime mortgages lose value.

He warned against any sort of government bailout plan for homeowners that interfered with the normal functioning of markets for home prices or interest rates, saying it would "drag this process out indefinitely." Offering cash to stricken homeowners instead would cause less long-term damage, he said.

"It's only when the markets are perceived to have exhausted themselves on the downside that they turn," he said. "Trying to prevent them from going down just merely prolongs the agony."

So the man who more than anyone else caused all this pain, the man who announced as Federal Reserve Chair that variable rate mortgages were a sensible option, now says that nothing should be done to help the victims. Not surprising, I guess, coming from one whose hero is the philosopher of psychopathic individualism, Ayn Rand. While Greenspan abhors any bailing out of average people facing eviction from their homes, he and other central bankers are always ready to bail out their fellow bankers. Only they don’t call it bailing out, they call it “providing liquidity.” The problem we face now is that, as Paul Krugman put it, this is not a liquidity crisis it is a solvency crisis.

After the money's gone

Paul Krugman

December 14, 2007

Princeton, New Jersey -- On Wednesday, the U.S. Federal Reserve announced plans to lend $40 billion to banks. By my count, it's the fourth high-profile attempt to rescue the financial system since things started falling apart about five months ago. Maybe this one will do the trick, but I wouldn't count on it.

In past financial crises - the stock market crash of 1987, the aftermath of Russia's default in 1998 - the Fed has been able to wave its magic wand and make market turmoil disappear. But this time the magic isn't working.

Why not? Because the problem with the markets isn't just a lack of liquidity - there's also a fundamental problem of solvency.

Let me explain the difference with a hypothetical example.
Suppose that there's a nasty rumor about the First Bank of Pottersville: People say that the bank made a huge loan to the president's brother-in-law, who squandered the money on a failed business venture.

Even if the rumor is false, it can break the bank. If everyone, believing that the bank is about to go bust, demands their money out at the same time, the bank would have to raise cash by selling off assets at fire-sale prices - and it may indeed go bust even though it didn't really make that bum loan.
And because loss of confidence can be a self-fulfilling prophecy, even depositors who don't believe the rumor would join in the bank run, trying to get their money out while they can.

But the Fed can come to the rescue. If the rumor is false, the bank has enough assets to cover its debts; all it lacks is liquidity - the ability to raise cash on short notice. And the Fed can solve that problem by giving the bank a temporary loan, tiding it over until things calm down.

Matters are very different, however, if the rumor is true: The bank really did make a big bad loan. Then the problem isn't how to restore confidence; it's how to deal with the fact that the bank is really, truly insolvent, that is, busted.

My story about a basically sound bank beset by a crisis of confidence, which can be rescued with a temporary loan from the Fed, is more or less what happened to the financial system as a whole in 1998. Russia's default led to the collapse of the giant hedge fund Long Term Capital Management, and for a few weeks there was panic in the markets.

But when all was said and done, not that much money had been lost; a temporary expansion of credit by the Fed gave everyone time to regain their nerve, and the crisis soon passed.

In August, the Fed tried again to do what it did in 1998, and at first it seemed to work. But then the crisis of confidence came back, worse than ever. And the reason is that this time the financial system - both banks and, probably even more important, nonbank financial institutions - made a lot of loans that are likely to go very, very bad.

It's easy to get lost in the details of subprime mortgages, resets, collateralized debt obligations, and so on. But there are two important facts that may give you a sense of just how big the problem is.

First, the United States had an enormous housing bubble in the middle of this decade. To restore a historically normal ratio of housing prices to rents or incomes, average home prices would have to fall about 30 percent from their current levels.

Second, there was a tremendous amount of borrowing into the bubble, as new home buyers purchased houses with little or no money down, and as people who already owned houses refinanced their mortgages as a way of converting rising home prices into cash.

As home prices come back down to earth, many of these borrowers will find themselves with negative equity - owing more than their houses are worth. Negative equity, in turn, often leads to foreclosures and big losses for lenders.
And the numbers are huge. The financial blog Calculated Risk, using data from First American CoreLogic, estimates that if home prices fall 20 percent there will be 13.7 million homeowners with negative equity.

If prices fall 30 percent, that number would rise to more than 20 million.

That translates into a lot of losses, and explains why liquidity has dried up. What's going on in the markets isn't an irrational panic. It's a wholly rational panic, because there's a lot of bad debt out there, and you don't know how much of that bad debt is held by the guy who wants to borrow your money.

How will it all end? Markets won't start functioning normally until investors are reasonably sure that they know where the bodies - I mean, the bad debts - are buried. And that probably won't happen until house prices have finished falling and financial institutions have come clean about all their losses. All of this will probably take years.

Meanwhile, anyone who expects the Fed or anyone else to come up with a plan that makes this financial crisis just go away will be sorely disappointed.
Meanwhile, the housing crisis shows no signs of ending.
U.S. Housing Crash Deepens in 2008 After Record Drop

Daniel Taub

Dec. 14 (Bloomberg) -- For U.S. homeowners, builders, bankers and realtors, the crash of 2007 will only get worse in 2008.

Everyone from mortgage-finance company Fannie Mae to Lehman Brothers Holdings Inc. expects declines next year. Existing home sales will drop 12 percent and existing home prices will fall 4.5 percent, Washington-based Fannie Mae says. Lehman analysts estimate almost 1 million mortgage loans will default in 2008, up from about 300,000 this year.

“We’re only halfway through the housing shock,” said Ethan Harris, chief U.S. economist at New York-based Lehman, the fourth- biggest U.S. securities firm by market value. “It’s just a matter of time before the weakness spreads to the rest of the economy.”

The housing market collapse has been anything but the “soft landing” that Federal Reserve Bank of San Francisco President Janet Yellen and David Lereah, former chief economist at the National Association of Realtors in Chicago, predicted for real estate at the start of 2007.

Median home prices declined in the U.S. this year, the first annual drop since the Great Depression, according to forecasts from the National Association of Realtors.

“I’m not going to sit here and tell you it’s going to turn real strong next year,” said Jim Gillespie, chief executive officer of Coldwell Banker Real Estate LLC, the largest U.S. residential brokerage, according to Franchise Times. “It’s not going to turn real strong next year.”

‘Let the House Go’

Analysts at New York-based CreditSights Inc. predict housing won’t rebound until “2009, at best.” Moody’s Inc., the economic forecasting unit of Moody’s Corp. in New York, says home sales will hit bottom next year, declining 40 percent from their peak. And U.S. Treasury Secretary Henry Paulson’s plan to slow foreclosures won’t help those who already are facing the loss of their homes, like C.W. and Sandy Hicks of Las Vegas.

The Hickses refinanced the mortgage on their four-bedroom, 1,300-square foot home two years ago. Their $237,000 adjustable- rate loan resets every month, and now their monthly payment has jumped 50 percent to $2,700. The couple can’t afford it.

“It looks like we’re going to have to let the house go,” said C.W. Hicks, 65, a long-haul truck driver who has kept working past retirement age to help pay medical bills for his wife Sandy, 59, who has heart problems. “I guess we’ll try to rent a house or something.”

The Hickses aren’t the only ones grappling with the consequences of this year’s housing market. The number of Americans behind on their mortgage payments rose to a 20-year high in the third quarter, the Washington-based Mortgage Bankers Association said earlier this month.

Lender, Homebuilder Woes

“The whole thing has deteriorated faster and further than we or anyone else had anticipated,” said Ron Muhlenkamp, president of Wexford, Pennsylvania-based Muhlenkamp & Co., which has about $2.5 billion under management and holds shares of mortgage lender Countrywide Financial Corp. and homebuilder Ryland Group Inc.

Not true, Mr. Muhlenkamp. Many of us saw this coming a mile away.

The five biggest U.S. homebuilders by revenue, led by Miami- based Lennar Corp., recorded writedowns and charges totaling about $7.5 billion this year for land that plunged in value.

Mortgage companies, including Irvine, California-based New Century Financial Corp., the second-largest subprime lender in 2006, have filed for bankruptcy protection after borrowers unable to repay their loans defaulted.

H&R Block Inc. of Kansas City, Missouri, shut Option One this month after plans to sell the subprime home-lending unit fell apart, and U.S. regulators ordered Santa Monica, California-based Fremont General Corp. to stop selling subprime mortgages, loans given to people with poor or limited credit histories or high debt levels.

O’Neal, Prince Fall

Bank and brokerage writedowns and losses related to subprime loans totaled more than $80 billion. Citigroup Inc., the biggest U.S. bank by assets, last month said it would write down the value of subprime mortgages and collateralized debt obligations -- securities backed by bonds and loans -- by $8 billion to $11 billion. At Merrill Lynch & Co., writedowns on mortgage-related investments and corporate loans have cost the world’s biggest brokerage $8.4 billion. Both companies are based in New York.

The losses led to the ouster of Merrill Chief Executive Officer Stan O’Neal and the resignation of Citigroup CEO Charles O. “Chuck” Prince III. O’Neal’s exit came after he said as late as July that “not even a sharp downturn in one market today necessarily portends financial disaster in another, and we’re seeing this play out today in the subprime market…”

“I know we weren’t predicting things would get this bad,” said Frank Liantonio, executive vice president for global capital markets at New York-based Cushman & Wakefield Inc., the largest closely held real estate services provider. “There were some signs there, but I don’t think anyone anticipated the level of dislocation that was actually created.”

They need to stop saying that no one anticipated this! Maybe no one living in whatever bubble these people live in saw it coming, but this crisis was the easiest thing to predict.

Now, however, the mainstream media is jumping on the bearish bandwagon with pieces like the following from the Los Angeles Times on the attractiveness of gold as an investment:

Buy yourself gold for portfolio protection?

Tom Petruno, Los Angeles Times

December 16, 2007

Financial advisors often try to discourage clients from such investments, but some individuals consider the metal to be insurance against the U.S. dollar. Learn four common ways to invest, and the pros and cons of each.

Gold is one holiday gift that has kept on giving for the last seven years.

The metal's market price, which last month surged above $800 an ounce for the first time in nearly three decades, has risen every year since 2000.

It has trounced the U.S. stock market in that period, rocketing 190%, compared with a 26% total return for the Standard & Poor's 500 index. After mostly being out of favor in the 1980s and 1990s, gold has found a new, and global, investor audience -- including the emerging rich in booming Asian economies.

Fresh interest in gold also has spawned an array of gold-related securities, providing more options for people who want to own the metal without having to take physical possession of it. Yet professional financial advisors often try to discourage their clients from gold investing in any form. Many say they don't believe it has a place in a modern portfolio. In part, gold and other precious metals -- platinum and silver -- suffer from their long-standing image as havens for survivalists, conspiracy theorists and flakes."

That's for the guys we don't want as clients," said Michael Glowacki, head of financial planning firm Glowacki Group in West Los Angeles.

Some fans of gold, however, say the bad rap is outdated and ignores the metal's powerful performance in this decade.

Martine Pham, a 45-year-old Bay Area investor, says she likes gold as a way to protect her purchasing power if the U.S. dollar continues to lose value, deepening its slide of the last six years.

But she also says she was drawn to the commodity in recent years by basic investment analysis."

If you just look at it based on supply and demand, I could make a good fundamental case for the price to go up," Pham said.

Some individual investors say they simply consider gold to be a modest bit of insurance for their portfolios of stocks and bonds."

In a worst-case scenario, you might be glad you had it," said Orvis Adams, an 82-year-old Los Alamitos investor who said his gold holdings amounted to less than 2% of his total investment mix.

If you're thinking about adding gold to your portfolio, how best to do it?

Here's a primer on the pros and cons of four common ways to invest in gold:

Gold bullion

Coins and bars from government or private mints are the classic way to own the metal itself -- and also the most cumbersome.

Coin dealers like to say that nothing compares to the weighty feel of real gold, one of the heaviest of the elements.

There's a "warm, fuzzy feeling" people get when they hold a gold coin in their hand, said Ken Edwards, a partner at California Numismatic Investments in Inglewood.

That's part of the marketing, of course. And government mints have tried to outdo one another in the last two decades in designing coins to catch the public's eye -- and bring in revenue from mint sales.

Thirty years ago the South African Krugerrand had the global gold coin market largely to itself. Now, the Krugerrand competes with the American Eagle, the Chinese Panda, the Canadian Maple Leaf and other government-minted coins.

One current favorite of some coin dealers is the Austrian Philharmonic, which on one side is adorned with the images of musical instruments including the harp and the violin.

Ultimately, gold is gold: The value of a minted coin depends mostly on its weight and the market price of the metal, plus the dealer commission (the markup or markdown, depending on whether you're buying or selling).

Dealer commissions typically range from 2% to 4.5%, depending on the coin. So it's worth shopping around.

The benchmark price of gold in New York futures markets Friday was $793.30 an ounce.

For 1-ounce coins, California Numismatics on Friday quoted a selling price of $826 for the American Eagle, $821 for the Canadian Maple Leaf and $816 for the Krugerrand.

All of the coins contain 1 ounce of gold. But some, including the Krugerrand, contain small amounts of alloys, such as copper, to add strength (because gold is relatively soft). Others, including the Maple Leaf and the relatively new American Buffalo, are virtually pure gold.

It's a matter of personal preference, Edwards says. "Some people just prefer solid gold."

Some investors also prefer gold bars to coins. The bars, in sizes as small as 1 gram, also are produced by government and private mints.

Michael Carabini, who manages gold dealer Monex Precious Metals in Newport Beach, sells bars and coins. But he recommends coins for most investors because they are easier to sell, he says."

The liquidity is better with coins," he said, in part because they're easily recognizable around the world.

Besides 1-ounce gold coins, some mints produce smaller sizes, down to one-tenth of an ounce.

But you may pay a bigger percentage premium to buy smaller coins, and dealers may charge a bigger markdown when you sell, compared with 1-ounce coins. The reason: Smaller coins trade less frequently.

"On a typical day, I'll trade 100 times more 1-ounce coins than smaller coins," Edwards said.

Even so, smaller coins may make sense for some investors, Carabini said. For example, if your plan is to eventually split the coins among heirs, smaller sizes could make that easier.

Thinking about your exit strategy is important for another reason: The tax man isn't friendly to bullion. Hard assets like gold coins are subject to a higher long-term federal capital gains tax rate when you sell -- 28% versus a top rate of 15% for securities such as stocks.

For some investors, the biggest potential drawback to owning coins or bars is the need to store them somewhere secure. Under the mattress isn't recommended -- not at about $800 an ounce for something so easily fenced.

Storage will cost you money, whether you use a bank safe deposit box, a home safe or a safekeeping program offered by some gold dealers.

Monex, for example, charges $5.50 a month to store 20 ounces of gold, Carabini said.

Gold certificates

These programs allow an investor to hold gold in certificate form. The certificate represents ownership either in gold held specifically for you or a stake in a pool of gold with other investors.

The firm that issues the certificate handles the safekeeping and typically is obligated to produce the gold upon demand or redeem it for cash.

When investor Martine Pham decided she wanted to own physical gold two years ago, she said, she considered buying coins but didn't want to deal with storing them herself.

She bought into the certificate program of GoldMoney, a Britain-based gold certificate company. The company stores its gold in vaults in London and Zurich, Switzerland.

She chose the program over others, Pham said, because of the ease of transferring funds. GoldMoney promises 24-hour access to its program.

Other companies offering certificate programs include EverBank in Jacksonville, Fla., and the Perth Mint in Australia.

It's worth shopping around to compare minimums and fees for the programs. GoldMoney says that it has no minimum investment and that its storage and insurance fee is a flat one-tenth of a gram of gold per month (about $2.60), regardless of the amount of gold owned.

EverBank has a $5,000 minimum for pooled accounts but doesn't charge a storage fee on them.Also compare purchase and sales fees. The Perth Mint charges a commission of 1.75% on purchases. EverBank charges 0.75%.

Exchange-traded funds

These funds provide a simple way for investors to ride a rally in gold's price -- or bet on a price decline.

Shares of the funds, the streetTracks Gold Trust (ticker symbol: GLD) and its rival, the Ishares Comex Gold Trust (IAU), trade on the New York and American stock exchanges, respectively.

A central idea behind the funds is that their daily price changes closely track changes in the price of bullion. That's because the funds' shares are backed by the metal itself, held in storage.

StreetTracks Gold Trust, created in 2004, has a market capitalization of nearly $16 billion. Ishares Comex Gold Trust, created in 2005, has a market cap of $1.4 billion.

Both stocks trade for about one-tenth the market price of bullion. On Friday, for example, the streetTracks Gold Trust closed at $78.50 a share. It's up 24% this year, compared with a 25% rise in the New York futures price for bullion.

The funds also can be used to bet on a falling gold price, because they can be "shorted" -- meaning, the shares can be borrowed from a brokerage and sold, with the expectation that the price will drop and the borrowed stock can be repaid later with shares bought at a lower price.

One potential drawback of the funds: You'll have to pay a trading commission each time you buy or sell.

And the stocks pay no cash dividends because gold itself doesn't generate any income.

Also, the Internal Revenue Service considers these a direct investment in gold, which means they're subject to the 28% hard-asset long-term capital gains tax instead of the 15% maximum on most stocks.

Some investors who prefer owning physical gold point to another potential negative with gold securities: When the stock market was closed for four days in 2001 after the terrorist attacks, owners of gold securities had no way to sell what they owned, or buy more.

Larry Heim, who operates a business in Portland, Ore., that buys gold bullion for clients, said he didn't recommend gold securities for that reason. "I don't want to take that risk," he said.

Mining stocks and fundsShares of gold mining companies and mutual funds that invest in them offer a way to buy into the business of gold as opposed to just the metal itself.

The performance of a gold mining stock may be tied in part to the metal's price performance, but in the long run the stock's rise or fall may well depend more on how well the business is managed.

Consider: The price of gold is up 25% this year. Shares of Barrick Gold Corp., one of the industry's titans, are up 24%. Shares of the much smaller Yamana Gold Inc. are down 5%.

In general, gold mining stocks are "notoriously volatile," warns Katherine Yang, an analyst at investment research firm Morningstar Inc. in Chicago.

The point being, if you're going to buy a gold stock, you ought to be prepared to do some homework -- and cross your fingers.

Overall, a Philadelphia Stock Exchange index of 16 major gold mining stocks is up nearly 17% this year after rising 11% last year and 29% in 2005.

Some mining-stock experts worry that a broad slide on Wall Street could drag mining stocks down as well for a while, even if the price of gold holds up.

"We could be coming up on a time when mining stocks could decouple from the price of the metal," said Frank Barbera, who writes the Gold Stock Technician newsletter in Los Angeles.

Decoupling could occur, he said, if a stock market plunge drives investors to sell their winners as well as their losers. In sharp market declines, "you sell what you can," Barbera said.

But longer term, he said, he favors smaller mining companies that could be takeover targets if the industry continues to consolidate and the metal's price continues to rise.

Investors who want to own a basket of mining stocks can pick from more than a dozen mutual funds that focus on gold stocks."

For people who aren't that interested but want some exposure, that's probably the way to go," Barbera said.

But as with any mutual funds, shop around. Some gold funds charge high management fees that will dent your returns.Morningstar's two favorite fund picks are American Century Global Gold and the Vanguard Precious Metals and Mining fund.

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