Mixed outlook for gold this year (Source: Financial Times)

Financial Times
Published: January 21, 2008, 01:27

Many regard gold as an insurance policy against mankind's folly - be it our collective propensity to lob bombs at each other or to lose control of the money supply. That is why the metal has risen more than a third since credit markets cracked in August, peaking at more than $900 an ounce this week. Meanwhile, geopolitical concerns keep bubbling, with Pakistan and Iran just two potential flash-points.

The climate is near perfect for gold bugs. Although this is the seventh year of a bull market in gold, it is still well below the real peak of $2,250, according to the World Gold Council. The Federal Reserve looks set to push real US interest rates into negative territory. And demand created by burgeoning gold exchange traded funds helps. Meanwhile, miners have struggled to maintain supply. The marginal cash cost of supply has risen by more than half since 2003, to more than $600 per ounce. The latter provides a price floor for gold - albeit still some way short of today's spot price.

There are countervailing trends, though. Globally, mining output looks set to rise slightly in 2008. Last year, China overtook South Africa, the world's top gold miner since 1905. Demand appears to be cracking in the face of high, volatile prices. The Bombay Bullion Association says Indian gold imports may have fallen by 20 per cent in 2007 and could drop further this year. That matters, given that India accounts for a fifth of world gold demand. Globally, jewellery fabrication - 60 per cent of gold consumption - fell by 12 per cent in the second half of 2007.

In 2008, therefore, investors' enthusiasm (or fear, depending on how you look at it) will play a key supporting role. Speculators' current net long position in US gold futures of 27 million ounces is just below October's record. The world's troubles justify their stance. But beware. Sharp increases in speculative "longs" propel prices upward, but many will be waiting for a sell signal. A rebound in the dollar against the euro, perhaps prompted by Europe's gathering economic clouds, could provide one.