Compass

Compasses were added in Seecret Friday Update 9 on September 10, 2010. They are created by using one redstone dust and four iron ingots (see formation below). The compass needle points towards the initial spawn-point at all times, even in your inventory screen, chests, lying on the floor or while holding it in your hand. When the compass needle is pointing straight "up" relative to the player, the original spawn point is straight forward. Very specifically, your spawn point is the center of the block you spawn on when starting the game, while the compass points to its north-east corner.

If brought into The Nether the compass will wildly point in random directions, making it entirely useless for navigation.

You do not actually have to build a compass to see which direction your spawn is in. Just place the necessary components into their places on a crafting bench and it will point towards your spawn. This can save you some iron and redstone.

If your home is near your spawn, the compass is very useful, especially if you are planning a long boat trip, so you can find your way back. Using a map editor to change the position of your spawn point to your homestead makes this even easier.

Jeb said that in Beta 1.4 when you sleep in a bed it will set your respawn point, but your compass will always point to your original spawn point. In practice, the compass points to the last location that you spawned, so resetting your spawn point by sleeping in a bed will not immediately change the compass direction, but if you then die and respawn next to the bed, the compass will point toward your new spawn location.

Trivia

 * The compass, along with the Clock and the Fishing Rod, is one of the few tools you can stack.