Hammered Gold

Gold got slammed this week along with the rest of the global marketplace, but it’s important to remember that this isn’t the first blip in the metal’s bull market uptrend. And it won’t be the last.

No prisoners have been taken in the great market sell-off that began on Tuesday, February 27. What began with a 9% fall in the Shanghai stock exchange quickly spread to a 416-point plummet in the Dow Industrials...and then expanded to every other asset class as over-margined traders sought liquidity at any cost.

After touching $682 early in the session last Tuesday, the metal was driven down in thin, aftermarket trading to the $660s. And any hopes of a quick rebound were dashed throughout the week, as market volatility kept investors coming back to precious metals as a source of much-needed cash. Long positions were sold mercilessly, and gold kept sliding to the mid-$640s.

At the beginning of the week, it appeared that rising prices were about to force the commercial sector to cover their very large short positions in gold, sparking a short-covering rally. But the plunging global stock markets have apparently rescued the commercials, driving the gold price back down, eliminating the short-squeeze pressures and allowing them to cover at much lower levels.

Ironically, then, the tables have been turned completely: Short-covering by commercials is likely to now cushion the gold market’s fall, and create a bottom. Over some time, the commercials will then begin going long, trapping the speculators, who undoubtedly began to go short as gold’s decline accelerated.

And consider this: Investors have been painfully aware of how gold and gold stocks have repeatedly sold off in the spring, and have been watching the calendar with growing dread, wondering when this year’s big correction would occur.

But the seasonal sell-off has previously come as early as the current correction (also beginning in late February in 2003, for example), so this may in fact represent the seasonal downturn that everyone has feared. In short, once we get through this rough patch, investors will not be quite as nervous, and ready to bolt.

We’ll see. In the meantime, it’s important to focus on the long term, and use the periodic dips and rises to your advantage.

And the long-term story is this: Gold is in the midst of what is very likely the most powerful secular up-trends in its history. And that up-trend is powered by forces a long list of powerful, unrelenting forces, including....

- Geopolitical Tensions. Strife in the Middle East, Iran’s nuclear program, North Korea, Nigeria, Latin America...the list goes on and on. All told these factors make the security of gold more attractive.

- Monetary Policy. For all its inflation-fighting rhetoric, it’s clear the housing crunch — and related subprime lender failures — mean the Fed isn’t about to up interest rates. That leaves U.S. paper assets dull and unexciting compared to gold. Plus, it makes gold’s inflation-hedge qualities super-attractive.

- The Rise Of China. No doubt about it: The China story will likely go down as the investment theme of this generation, if not the century. The Asian powerhouse’s unrelenting 10%-plus growth rates — which doubles the size of the economy every seven years — is putting mind-boggling pressure on just about every commodity out there, gold included.

- Oceans Of Liquidity. Stellar growth in the East — along with stunning asset inflation and credit growth in the West — have created one of the deepest reservoirs of liquidity out there. And that money naturally flows into stand-out investments like gold.

- Inflationary Pressures. The latest CPI numbers — which marked the biggest gains in seven months — would have normally given gold a good thrashing. But because the market knows the Fed’s not about to raise interest rates in order to fight inflation — at least not yet — gold soared on the news. And as inflation pressures build, gold is likely headed up, not down.

- Rising Energy Prices. In spite of corrections here and there, the long-term up-trend in oil and energy is still solidly in place. And since those rising prices spell “i-n-f-l-a-t-i-o-n” to the investing public, the upward pressure on gold —the best natural inflation fighter out there — is massive indeed.

- Rising Gold Demand And Declining Gold Production. Staggering growth in Asia, regional cultural affinity for the metal, institutional investment, and the mercurial success of individual-investor-friendly exchange traded gold funds (ETFs) are just a sample of the drivers sending gold demand through the roof.

On the other hand, under-funded gold exploration budgets — along with a host of other labor, environmental and construction obstacles — have made big new gold discoveries few and far between. It’s no wonder then that, as the price of gold exploded last year, production actually fell. Together, these supply and demand factors point to a huge upside for the yellow metal.

- Central Bank Buying. We’ve all known that central banks — particularly China, Russia and Argentina — are piling up their gold reserves. And it doesn’t take a rocket scientist to figure out that China’s publicly stated plan to diversify $7 trillion in dollar reserves is going to include big purchases of gold. All that buying means upward pressure on gold prices.

- Dollar Weakness And Disinvestment. The U.S. dollar may have mustered some recent strength, but the long-term trend is undeniably bearish. And since that makes the greenback less attractive, investors naturally turn to other quality vehicles, including gold, to park their cash.

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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.