The Truth About Gold and Silver ETFs

(TheStreet ) -- Silver and gold prices are on the rise, making physically backed exchange-traded-funds very tempting investments. Before you buy, here's what you need to know.

There are five physically backed ETFs traded in the U.S.: The biggest, SPDR Gold Shares(GLD); the cheapest, iShares Comex Gold Trust(IAU); the newest ETFS Physical Gold Shares(SGOL) and the two silvers, iShares Silver Trust(SLV) and ETFS Physical Silver Shares(SIVR).

When you buy gold and silver physically backed ETFs you do not own the physical metal, you own a paper representation. With respect to the gold ETFs for every share you buy, you "own" one tenth of an ounce of gold, while for silver, it's one ounce.

The actual metal is stored by a custodian, usually one of the large banks like JPMorgan(JPM) or HSBC. The share-to-metal correlation erodes the longer you hold the shares. The fund must sell gold, for example, periodically to pay for expenses which decreases the amount of gold allocated to each share.

If investor demand outpaces available shares then the issuer/trustee must buy more physical metal to convert it into stock. Conversely, when investors sell, if there are no buyers, then the metal is redeemed, the trustee must then sell the metal equivalent. Precious metal ETFs are not owned for leverage, but simply as a vehicle to track the spot price. (more)