Factors Align in Gold's Favor

A confluence of fundamental and monetary factors has the gold bugs licking their chops again.

Gold, which has traditionally been a safe haven for investors in times of financial turmoil, has posted net gains this year, though it's been a bumpy ride. After a 25% rally in 2002, gold started this year at $344.8 an ounce and has swung both up and down by double-digit percentages, recently settling at about $360.

Analysts attribute the net 4.6% rise in 2003 primarily to a drop in the U.S. dollar. When the dollar falls, gold often rises, because investors lose confidence in paper currency.

Dusted on Cool

Even though the greenback has rebounded over the past couple of months, some pundits believe there's a decent chance it will weaken through the end of the year, as investors react to the budget deficit and huge current account gap. That, and an uptick in inflation, could lend support to gold prices and by extension gold stocks.

"From 1989 to the present, each 1% shift in the spot price of gold has meant a 1.9% shift in the S&P 500 gold index," said David Kerans, an analyst at Argus Research.

Kerans said he is expecting gold to climb to about $380 an ounce by the end of the year, partly because he feels the supply of gold will be constrained going forward. He is looking for gold production to decrease by 3% per year until at least 2007.

"There's not enough money being spent on exploration to maintain current production levels in the longer term," agreed Geoff Stanley, an analyst at BMO Nesbitt Burns.

Yellow Yellow

Analysts also note that demand for gold continues to be strong, particularly in India, where jewelry makers have been stepping up their gold purchases.

Merrill Lynch, which is looking for bullion to rise to $370 an ounce by October, also noted that demand in China is likely to increase from both the public and private sectors.

"Continued gold market reform is expected to enhance China's gold demand," the firm said in a recent report. Merrill and Goldman Sachs now recommend a 5% weighting of gold in client's holdings.

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