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Gold Prices Rallied with Euro (Update 2)

NEW YORK ( TheStreet ) -- Gold prices rallied Thursday as borrowing costs for Spain and Italy fell, pushing the euro higher and bringing gold with it.

Gold for February delivery closed off session highs but was still up $8.10 at $1,647.70 an ounce at the Comex division of the New York Mercantile Exchange. The gold price has traded as high as $1,662.90 and as low as $1,640.90 an ounce while, the spot price was up $4, according to Kitco's gold index.

Silver prices added 23 cents to close at $30.12 an ounce while the U.S. dollar index was down 0.57% at $80.79.

A successful bond auction in Italy and Spain early in the day cheered gold investors Thursday as the yellow metal was still trading in part with the euro. Gold eased off session highs as investors took profits but the metal still ended the day on a high note.

"Continued buying interest from investors added to gold becoming technically and fundamentally attractive," says George Gero, senior vice president at RBC Capital Markets. "We are adjusting our view for $1,615 low end support, with $1,650 average price for now with resistance at $1,675."

Italy raised 8.5 billion euros for 12 months at an average yield of 2.73%, which was less than half what it paid a month ago, although demand was slightly less. Spain raised 10 billion euros in three bond auctions at an average yield of 3.68%. The average bid-to-cover ratio was 1.9, which was respectable. Anything over 2 represents solid demand.

"The weakness of past months, which drove the price of gold to an interim 5½-month low of $1,523 at the end of December, would appear to be over," says Commerzbank. Gold was unfazed by lack of action by the European Central Bank today.

The ECB left interest rates at 1%, and president, Mario Draghi expects the eurozone economy to recover but very slowly in 2012 and acknowledged high uncertainty and downside risks to the economy. Draghi also said the ECB is monitoring lending and credit supply for the eurozone, which means more monetary easing isn't necessary right now. The ECB has already pumped a lot of money into the system, offering unlimited loans to banks at low rates and buying bonds of struggling Eurozone nations.

The ECB hasn't committed to as much intervention as the Federal Reserve, for example, with its big bond buying programs, but it is still supporting the markets. Since the second week of August, the eurozone's balance sheet, including national central banks and the ECB, grew by 729 billion euros. Most of the money is winding up parked back at the ECB as bank deposits are at a record high of 464 billion euros.

"Further broad-ranging monetary easing measures cannot be expected," says Commerzbank, but as long as the ECB doesn't tighten, attempts at pumping money into the European banking system should stay supportive for gold.

"We see the problems in the U.S. and Europe being solved with the printing of money," says Malcom Gissen, co-manager of the Encompass Fund, "and when you do that you inflate your currency and drive people to be buying gold." Inflation in the eurozone fell to 2.8% in December from 3% but is still above the 1% interest rate meaning that real interest rates are actually a negative 1.8%. Cash in the bank loses money and makes gold attractive as a wealth preserver.

"Investors will have less confidence in our currencies and they will move to gold," says Gissen. Aside from inflation, Gissen says one of the biggest drivers will be strong buying out of China. The country imported 389 tons of gold in the first 11 months of 2011. "As people make more money in China we see more gold being purchased," says Gissen, "and as it is being made available to them in smaller cities and that will help demand for gold."

Monetary policy in China is a question mark for gold right now. Inflation in December fell to 4.1% from 4.2%, which was not as dramatic a fall as expected. The question remains is inflation now low enough for the People's Bank of China to ease monetary policy and try to pump more money into the system through lower interest rates, currently at 3.5%, or through allowing banks to lend out more money.

"The way they are conducting monetary policy is through reserve ratios," Adrian Ash, head of research for the Ash says on the surface Chinese demand is bullish for gold. "Right now people are underwater due to inflation... gives incentive to people switching to buying gold ... gold makes an obvious alternative." People in China don't also have a lot of ways to invest in assets that offer returns and although inflation is moderating it is still coming through in other aspects like high oil prices and wage growth, wages doubled in 2011.

Ash warns however that the amount of gold China is importing could slowly become a problem. If China's trade surplus shrinks or if it goes into a deficit, Chinese authorities might get worried about sending more money overseas and how much gold buying is adding to its trade deficit, which might force the government to cut down on imports. "Amount of gold coming in is going to be a concern to the authorities."

Gold mining stocks were a mixed bag Thursday. Kinross Gold (KGC - Get Report) was up 0.16% at $12.83 while Randgold (GOLD - Get Report) was adding 1.76% at $110.81.

Other gold stocks, Agnico-Eagle (AEM - Get Report) and Eldorado Gold (EGO - Get Report) were trading lower to $37.30 and $14.11, respectively.

-- Written by Alix Steel in New York.

>To contact the writer of this article, click here: Alix Steel.

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Disclosure: TheStreet's editorial policy prohibits staff editors and reporters from holding positions in any individual stocks.

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