Spot gold prices climbed above $672 per ounce by the close of play in London Friday after US data showed inflation ahead of expectations – but US retail sales turning negative.
"The market sees a falling gold price as a gift horse," reckons Jon Bergtheil, head of metals at J.P.Morgan in London.
"The fundamentals are still very positive."
How positive are gold's fundamentals? The gold market is caught between tight supply and growing long-term demand.
GFMS, the widely respected London consultancy, said Thursday that it expects total world gold supply – from central banks, miners and scrap jewelry – to decline for the third year running in 2007.
South African gold production fell 10.8% year-on-year in March according to an official report out Friday morning. Production of non-gold minerals slipped only 0.7%.
All told, annual gold output in South Africa –the world's No.1 producer – has more than halved in the last decade. Analysts at Virtual Metals now forecast a further 2% drop this year. (The bubble in gold-mining stock mergers; find out why here...)
On the other side of the equation, demand from investors wanting to buy gold bullion fell sharply this week judging by data from the exchange-traded gold funds.
StreetTracks GLD, the largest US-listed gold ETF, saw net sales worth five tonnes between Wednesday and Thursday alone. (Short-term investors were always likely to throw in the towel this week – read why here...)
In the futures market, June contracts at the Comex now need to be rolled over to the Sept. gold futures.
With long June positions totaling more than 220,000, pressure in the paper-gold market may depress physical gold bullion prices in the short term.
"Combined with a weak volatility environment," the J.P.Morgan note goes on, "the most likely outcome in the very short term is further selling on rallies towards the top end of the $685-$695 ounce range."
But looking further ahead, the key driver of this bull market in gold – a surge in the global money supply that's destroying the value of official currency – looks set to roll on. (Get a longer-term technical gold analysis here...)
US retail sales in April slipped 0.2% from March, said the Commerce Dept. at 08:30 New York time, confirming reports that the US economy is slowing as a result of the ongoing collapse in subprime mortgage lending.
Producer prices, however, rose 0.7% for the month, said the Dept. of Labor – outstripping Wall Street consensus and showing that costs are still rising.
Stuck between rising inflation and slowing growth, the US Fed looks set to choose keep Dollar rates on hold, just as it did this week.
As the real rate of interest gets squeezed in between, investors are likely to choose gold for protection.
They'll certainly spurn high-yield bonds and Treasury notes – just as they did Thursday despite a shake-out in both commodities and stocks.
Emerging markets may seem to offer short-term capital growth, but local currencies are racing to debase so quickly, an epic bubble in local equities has now formed in China.
Real rates of interest on the Chinese Yuan stand around minus 3.0%. No wonder that 300,000 new stock brokerage accounts are being opened every day in the former Communist state.
Total trading volumes in Shanghai and Shenzen hit $50 billion on Wednesday, reports Bill Bonner in The Daily Reckoning – "greater than the rest of Asia combined, twice the level of Japan, and TEN TIMES trading volume just six months ago."
Across the Pacific, meantime, the US stock market's new highs have also come on the back of a falling currency.
"I believe very strongly that a strong Dollar is in our nation's interest," said US Treasury Secretary Henry Paulson in a PBC interview due to air Friday evening.
His timing looks impeccable. The Dollar this week pushed the Euro down to one-month low – more than 1.5% off its record top of April 27th.
But repeating the word "strong" when speaking of the Dollar does not create a "strong Dollar" policy.
Trading near long-term support on its trade-weighted index, the Dollar priced against other currencies is as low today as at any time since the mid-70s. Priced against gold the US Dollar has more than halved since 2002.
And rather than urge the US Congress to slow Washington's spending – and instead of asking Ben Bernanke at the US Fed to hike Dollar interest rates way ahead of inflation – Paulson chose this week to accuse the Chinese authorities of refusing to let their currency, the Yuan, float freely.
Across the Atlantic, Paulson's "strong Dollar" talk will fail to impress finance ministers in Europe. Now under pressure to debase the Euro, the European Central Bank – just like the Fed – claimed that it remains "vigilant" on inflation this week.
Yet it also failed to raise its interest rates too, despite the Eurozone's money supply growing at a near two-decade record. (Click here to learn more...)
British Pound interest rates fail to beat tax and inflation as well, even after this week's much-awaited increase to 5.5%. Outside of basket-case currencies such as the Icelandic Krona and New Zealand Dollar, in short, no one will reward cash savers today for holding money instead of borrowing it.
History says gold will continue to rise as a result. Get the full story here...