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As gold breached the symbolic barrier of $1,000/oz, it also created the impression that the price of the yellow metal was going to stay over that level for some time or even shoot up to $1,500 or $2,000 in the coming months.
Did gold prices shoot up because there was enough demand?
Market data shows that investment demand for gold remained very strong in the second quarter of 2009, rising 46 per cent on year earlier levels as investors continued a flight to quality.
However, overall demand for gold fell back from recent high levels as weak economic conditions and high gold prices combined to impact demand, according to the Q2'09 Gold Demand Trends report published by the World Gold Council (WGC).
This indicates that gold prices shot up due to some short-term market conditions rather than any sustained long-term build-up.
The World Gold Council has identified the following short-term reasons for the recent gold price rise:
Recognition of gold as an asset class: Both retail and institutional investors are increasingly turning to gold as an independent asset class to ensure their portfolios are properly diversified and risk-mitigated.
Continued fears over inflation: Leading economists are predicting rising inflation as a result of governmental measures to stimulate recession-hit economies. Gold is a proven hedge against inflation; while its real value can vary in the short term, its purchasing power has remained stable over centuries.
Weakening dollar: Gold is a statistically proven hedge against fluctuations in the US dollar, the world's main trading currency. The dollar having traded at highs earlier in the year has weakened against the euro and sterling in recent months.
Equity market performance: Ongoing concern about whether the recent rise in equity markets is sustainable in the short-term is encouraging investors to look to gold's unique wealth preservation qualities to underpin their portfolio strategies.
World Gold Council data says even as the total volume of gold held by central banks remained almost constant, their value as a percentage of total assets held marginally declined in most of the cases.
The US and Germany with 8,133.5 and 3,408.3 tonnes are the countries with the highest amount of gold reserves in the world. China, the world's largest gold producer, apparently slowed its gold accumulation spree. It holds 1,054 tonnes of gold, which is just 1.8 per cent of its total reserves.
Saudi Arabia and Qatar were shown having 12.3 and 2.3 per cent of their reserves in gold. The figure stood at 12.4 per cent and 3.7 per cent respectively for the two hydrocarbon rich countries in March 2009.
With central banks not having favoured any mass accumulation of the yellow metal, what credibility is there in the prediction that gold is going to continue its upward climb?
Analysts say gold will consolidate at a certain level and then go down from there.
The current rally is not based on any strong fundamentals. If fundamentals had been strong a lot of volume would have been traded.
In a deflationary atmosphere, people don't spend as much and that is clearly visible through shrinking GDP worldwide and retail sales dropping each quarter. If the common man doesn't spend as much, is he/she going to buy gold at all?
The fundamentals certainly do not support the price. Real demand, three quarters of which comes from jewellery, is non-existent as the high prices and general economic climate have put people off.
Even investment demand from exchange traded funds (ETFs), which drove up prices last year, has stalled. The other usual factors influencing gold investment demand - systemic risk and inflation fears - have also been rather subdued.
In reality the gold investment market is very small. There are only a handful of banks in the world that regularly trade gold, so even a small increase in demand combined with flat supply causes a big price spike. Gold demand is expected to go down nearly 40 per cent in India.
The gold price usually tracks indices plotting risk and inflation forecasts, but in the past few months there has been a divergence with the threat of bank failure and rampant inflation falling while gold has continued to rise.
The most common explanation for gold's surge has been the weakening of the US dollar against the euro, so investors are switching their assets from currency into something a little more solid. There is probably an element of truth in this, but not enough to send gold to $1,070 an ounce.
The dollar cannot just go down forever. It either has already formed a bottom right now or it is going to, soon. Meaning, if the dollar resumes its uptrend, gold is bound to go down.
After all, the US cannot just leave dollar worries unattended. Coming to demand from the common public, it is already going down. So, gold in deflationary atmosphere is only going to go down.
