Gold rose above $610 in Asia today after hitting a one-month low of $601 per ounce in New York late Friday. It's since slipped back again as the European session began.

Why has gold dropped so hard, losing a massive 5% inside one week? “It looks like we’re going to have that soft landing we’ve all been hoping for,” said an adviser to US President Bush on Friday.

The latest employment data, he said – showing 167,000 extra non-farm jobs in Dec. versus 100,000 forecast – proves the Fed had “gotten it right”.

For now, currency traders and hedge funds agree. The Dollar rose strongly on the jobs data, pushing the Euro back to $1.2989. Sterling has dropped 2.6% against the Dollar since this time last month.

"If you want to blame something, you can say a sliding oil price and currencies such as Sterling have put a negative sentiment on gold," one Singapore gold dealer told Reuters this morning. "However, support can be seen at around $600."

"I am not worried about the sell-off. It's only the hedge funds playing the market. Even if we have a quick dip to $599.10, I think it's all fine."

The drop in Sterling and the Euro has capped losses in gold for British and Eurozone at 3.1% each. And as CommoditySeasonals.com points out, January normally proves a bad time of year for gold prices.

Physical demand tends to decline as jewelers find themselves with Christmas and New Year inventory left over.

"There's a little bit of [physical] buying because of the lower price," says a dealing office at the Bank of China in Hong Kong today. "On the whole, there is some interest in Asia." He sees support at $602, with resistance around $609 per ounce.

More evidence that contrary-minded investors should expect the pullback to continue also comes from the stock market. London's FTSE100 hit new five-and-half year highs last week, but dropped sharply as mining and energy stocks fell alongside metals and oil.

"Almost 25 per cent of FTSE 100 companies are metal/mining or energy related," notes Clive McDonnell, chief European equity strategist at Standard & Poor’s. "Conversely, the [German] Dax is the best hedge against falling commodity prices as it has no direct exposure to metals/mining or energy."

Stocks in mining companies look vulnerable thanks to their own strategy, too. "Mining companies, pumped up by the resources boom, are choosing to step out without their usual protection," reports Mandi Zonneveldt for the Herald Sun in Sydney, Australia.

The switch to de-hedging has been fastest amongst gold producers, if only because they had the largest hedge books to unwind. Last spring saw unwinding by the world's largest gold miner, Barrick, just as the price shot to a 26-year high. Now that gold producers are more exposed to rising prices, they're also more vulnerable to any setbacks.

"The hedge impact of the global book - the measure used by The Hedge Book - has fallen from 52.6 million ounces to 41 million ounces in the past nine months," says Zonneveldt, meaning that forward sales have dropped sharply. "At the same time, the gold price has doubled."

Australian producer Newcrest said in November it would defer 1.6 million ounces of gold into set-price contracts. That raised its exposure to the gold price. But such confidence in gold's bull market – after 20 years of declining prices and increased hedging by gold producers – comes just as Wall Street says the commodity bull market has peaked.

“The super-cycle theory of commodity markets is all about constraints on the supply side," says Stephen Roach, chief global economist at Morgan Stanley. "[But] likely demand shortfalls in China and the US could be equally telling."

Charles Dumas of Lombard Street Research in London says the commodity bubble appears to have burst. Clive Donnell at S&P Europe says a bear market has begun.

Then there's the falling oil price. A key reason for investors to buy gold – often seen as the ultimate inflation protection – since 2003, "falling crude will [now] take its toll on gold," said Ranjit Rathod, director of India's MNC Bullion to Bloomberg this morning.

"The whole mood is bearish with base metals being thrashed badly."

Has the gold market really turned? "The Dollar is in a consolidation mode as opposed to a trend change in my view, and I see it resuming its decline," reckons one US commodities analyst.

"Funds are not bailing these markets out and have gotten short. I see a gold rally down the line, but it may take a week or so. We are advising clients to maintain a 75% long commitment in gold."

While non-US investors may choose to follow the gold price in their own local currency right now – and buy at near 12-month lows – the US Dollar is sure to make headlines in the commodity markets as January unfolds.

And whatever happens to gold, the sudden recovery of the US Dollar could become a big theme in 2007. Click here to find out why...