NEW YEAR, NEW PERCEPTIONS

While the speculators may come and go, physical buyers across the globe will keep propelling gold higher.

It’s amazing what a difference the simple flipping of a calendar from one year to the next can make.

It is at heart, of course, purely a psychological change. The natural world takes no notice of the shift from one year to the next; the tides ebbed and flowed according to schedule…no rivers reversed course…the earth did not suddenly shift on its axis.

…But you might have thought all of the above (and more), based on the swift and monumental tilt that occurred in the balance of the markets when the new year officially opened for business, as capital poured toward the U.S. dollar, and away from commodities.

The out-of-the-gate assault on commodity prices took no prisoners. Over the first, holiday-shortened week of 2007, leading commodity indices shed over 6%. All by itself, oil lost about 8%.

More important to us, in that same time span gold fell $35 (5.5%), silver dropped $0.73 (5.7%) and platinum lost 2.4%. The mining equities followed suit, reflecting the carnage in the underlying metals.

All of this came fast on the heels of a very positive finish to 2006, during which gold posted a strong advance to crest $640. So what changed when the calendar flipped from 2006 to 2007?

The answer is...perception. And nothing more.

Yes, the new dollar-bullish, commodity-bearish market consensus was loosely based on evidence. Primarily, the December manufacturing reports from the Institute for Supply Management (ISM) came in at 51.4%, reversing the below-50% number posted in November. Any number above the 50% “breakeven” point indicates expansion, so particular emphasis was apparently placed on the December result because it not only reversed a downward trend, but also indicated economic growth.

Then, there was the Labor Department’s payrolls report, which came in at a remarkable 167,000 new jobs for December, easily surpassing the consensus estimate of 115,000 jobs. Moreover, wages showed strong growth, rising at an annual rate of 4.2%

All in all, these two reports were a double-whammy -- destroying any hope that the Federal Reserve would cut interest rates at either of their next two meetings. At best, investors could hope the Fed governors would keep rates on ice, and not raise them to combat the inflationary effects of a surprisingly robust economy.

So, to simplify things, the markets have decided to perceive that rates will remain steady or rise, thereby boosting the relative value of the dollar, and therefore lowering the appeal of gold.

I understand how unseasonably warm weather and growing inventories can affect prices for oil and natural gas, but how economic growth can be interpreted as bearish for all other commodities -- including grains and metals -- is beyond me.

Then again, the nonsensical, across-the-board nature of the move is precisely what indicates that it is not fundamentally based -- unless you consider margin calls and financial distress fundamental factors.

In other words, liquidation on such a far-reaching scale points to markets that are not reacting to fundamental factors or long-term forecasts…but rather to short-sales, margin calls, pre-programmed sell stops and other artifacts of speculative trading.

In short, speculators were long -- too long, and in too many markets. And the recent economic data were merely triggers for the first domino.

So, with the commodity markets rebounding modestly over the past few trading days, the question arises: Has the bleeding stopped?

To some extent, I think it’s safe to say “Yes.” Physical demand seems ready and set to support prices at their current trading range between $605 and $615. In fact, new reports showing a welcomed decline in the U.S. trade deficit boosted the dollar, but had surprisingly little effect on the gold price. This would seem to indicate that the paper-gold speculators are steering clear of the gold market for now -- or are on balance remaining neutral -- and that the physical buyers are holding sway.

In the longer term, the fickle, albeit potent, hot-money players will continue to drive the short-term picture for gold. They will, in effect, trace the “wiggles” along gold’s long-term uptrend line.

And, fortunately for us, the long-term uptrend will continue to be supported, and driven higher, by gold’s powerful fundamentals. To wit: Expanding money supplies across the globe, coupled with the powerful economic emergence of China, India and much of Asia, is driving both real and perceived inflation and demand for commodities.

This is driving starkly higher demand for gold, as an inflation hedge, as a crisis hedge, and as a luxury item.

And to cap it all off, at the same time as all these factors are driving demand for gold higher, the supplies of the precious metal are actually growing more constrained. Central bank vaults are being emptied, and annual production is falling.

The end result, of course, is higher prices over the long term. And veritable fortunes for those who invest in the right companies as this process plays out.

In the meantime, however, volatility is likely to be the watchword, as today’s schizophrenic speculators respond to successive rounds of economic data. Physical demand will support the price for some time in the current range and, when the speculators return in force, they will provide the fuel for the next dramatic leg up.

So, be sure to stay the course. In this market environment, the key is to be highly selective, and focus on companies primed to make strong advances based on their exploration and development results, regardless of gold’s short-term direction.

In Gold Newsletter, I’ve been doing just that. I strongly urge you to carefully review our upcoming February issue for details on my top recommendations. To make sure you get this valuable information, click here to subscribe online.

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Brien Lundin is the editor and publisher of Gold Newsletter, a publication that has ranked among the world’s leading precious metals and resource stock advisories since 1971. To learn more about Gold Newsletter, visit www.goldnewsletter.com.

Mr. Lundin is also the host of the famed New Orleans Investment Conference, the world’s oldest and most respected gold investment event. To learn more, visit www.neworleansconference.com.