Clay

Clay is a block that is a light-blue/gray recolor of the Sand texture.

Clay can be found on the surface in groups of varying number usually surrounded by Sand. Previous to 1.8, clay's spawning was not tied to water and sand, but just to sand, and could spawn in the middle of deserts. It is usually exposed, but is sometimes found under sand or water. It was uncommon, but was easier to find than other "rare" blocks (like Gold) due to the fact that one only needs to explore surface-level deserts or beaches to find it. As of 1.8, clay is commonly found a the bottoms of rivers and lakes in shallow, circular patches, disregarding adjacency to other types of blocks. Clay was a lot less common before the Halloween Update.

It can be mined with any type of tool, but Shovels are the optimal choice. Destroying clay blocks will yield 4 balls of Clay each, which can be crafted back into a clay block or smelted into brick.

By hitting F5 you can enter third person mode. In third person mode you can adjust the camera angle to easily see underwater. This is very useful for efficiently looking for clay blocks from a boat.

If you are having trouble seeing if a block is clay or not, look for the characteristic lines of stone. Clay is usually a lighter color than stone and appears to be smoother. Clay also sounds like dirt and mines much faster than stone (especially with a shovel).

When mining clay deep underwater, it is helpful to place signs or reeds, in order to create a space with air, which you can visit every so often to get air without going to the surface. It is not known whether Notch will address this as a bug or not.

Trivia

 * In real life, Clay can actually be bright red, not just gray; and clay is often found under the surface.
 * Clay can be easily found in the middle of an expanse of water. When sand is on the surface or a block under, there is a chance that clay is there, too. Use a boat to find these areas.
 * If inventory space is tight, clay balls can be formed back into clay blocks using the 2x2 inventory crafting grid. As blocks, clay can take up to 4 times less space, but in order to revert the clay blocks back into balls for smelting into bricks the clay blocks must be placed and destroyed again.
 * As of 1.8, clay is commonly found underwater mostly on the bottom of Rivers and is common in the submerged area of swamps and shallow "lakes" (1 and 2 meters deep) in large quantities.
 * During beta 1.6, in newly generated chunks clay blocks were nearly nonexistent. To be specific, clay only generated when the x and z coordinates were the same, severely limiting the amount of clay on the map. This was fixed as of 1.7.
 * As of the 1.8 update clay seems to spawn in large quantities in the swamp biome since it has abundant sand and water.

Gallery
Note: During 1.8, go to a swamp biome, and go in your boat and move your POV in third person down until you can see under that water. now look around and find clay deposits.