The invention of commodity-focused exchange traded funds (ETFs) and exchange traded notes (ETNs) have been a boon to investors. But they’re not all the same. Do you know the differences?

One of the more common misunderstandings of investing in the commodity world is what commodity funds actually hold, explains Gary Gordon of ETF Expert.

While ETFs and ETNs have made the investment process easier, it helps to know exactly what you’re investing in to avoid surprises. It also helps to explore all of your options, as well, because in some cases, a fund that invests in commodity producers may be performing better than the commodity itself.

Take Market Vectors Gold Miners (GDX) as an example. Year-to-date, it’s up 9.8%, while SPDR Gold Shares (GLD) is up 5.9%.

The types of commodity funds available include:

• ETFs that invest in companies. Examples of this are the aforementioned GDX. It also includes Market Vectors Steel (SLX), iShares S&P Global Energy (IXC) and Claymore S&P Global Water (CGW). In these funds, you’re investing in companies that are in some way involved in the production of these commodities, rather than futures or the commodities themselves.
• ETFs that hold futures. These include United States Oil (USO), PowerShares DB Gold (DGL) and iShares S&P GSCI Commodity-Indexed Trust (GSG). An advantage to owning these types of funds is the fact that rolling over futures contracts is handled for you.
• ETFs that hold the physical commodity. This includes iShares Silver Trust (SLV) and iShares COMEX Gold Trust (IAU). These ETFs eliminate the hassle and expense of owning and storing a physical commodity.
• Commodity ETNs. Commodity ETNs are the same as other ETNs in that they’re debt obligations backed by the full faith and credit of the issuer. Types of these include iPath Dow Jones-AIG Commodity Index (DJP) and E-TRACS UBS Boomberg CMCI Food ETN (FUD). Look at the underlying index to see how it’s constructed – for example, FUD’s index is a basket of agriculture and livestock futures.

This is by no means a complete listing of all these types of funds. When you’re looking into commodity ETFs, check to see what it holds so you know what you’re getting, how it stacks up performance-wise against other ETFs targeting the same commodity and follow the trend lines using an entry and exit strategy.

For the rundown on the differences between most of the commodity funds, check out this commodity report we ran last month.

For more stories on commodities, visit out our commodity category.

Tags: Agriculture, Base Metals, CGW, Commodity ETFs, DGL, DJP, Energy, ETF 101, ETNs, FUD, GDX, Gold, GSG, IAU, IXC, Metals & Mining, Oil, Precious Metals, Silver, SLV, SLX, Steel, USO, Water