Gold Funds Shining In Market Slump

As most other areas of the market struggle, gold each week fights off contenders for its crown as the top-performing asset class for the past year and the year to date. Gold has surged 10% this year after rallying 32% in 2007, 23% in 2006 and 18% in 2005.

It has etched one of its steepest ascents ever. The widely watched price quoted in London climbed 270% from about $252 an ounce in July 1999, to a 28-year intraday high of $933 this week. Only the 582% jump from 1976 to 1980 was greater.

But by some measures the new high is still a far cry from the January 1980 peak. The $850 an ounce that gold went for then would be worth $2,200 in today's dollars.

Investors have flocked to gold as a hedge in the midst of a global credit crisis, a weakening dollar, rising inflation pressures and widespread fears of a recession.

"Whenever you get lack of neutrality in the market -- great concern over deflation or inflation -- gold is a wonderful form of financial insurance," said Frank Holmes, chief investment officer at U.S. Global Funds, which specializes in natural resources and manages $6 billion in assets.

Holmes believes gold could hit $2,000 if current trends continue.

Money supply around the world is growing at double-digit rates, he says. But supply of gold -- always characterized as money by central bankers -- is dropping.

Analyst Natalie Dempster, in the most recent industry report from the World Gold Council, said the tipping point 15r the new high seemed to be reached by "a combination of safe-haven buying, after the assassination of former Pakistan Prime Minister Benazir Bhutto, and inflation-hedge buying, as violence in Nigeria pushed oil prices above $100 a barrel."

At the same time, disappointing economic reports suggested that the credit crunch was hurting the U.S. economy, Dempster noted.

Beyond Safe Haven

But safe-haven seekers aren't the only ones rushing to gold.

Rising income levels in key markets such as India, tight mine supplies, the proliferation of metal-hungry gold ETFs and higher industry costs have put a higher floor on gold's price, according to the World Gold Council report.

Seasonal demand, strongest between August and February, is also playing a role. Gold jewelry sales -- which account for 70% of demand -- increase during those months in connection with a series of holidays around the world: the Jewish New Year in September; Ramadan, which varies between August and November; Diwali in India in November; Christmas in the West; and the Chinese New Year in February.

So what would knock gold off its perch? The metal is undesirable in periods of financial stability, modest growth and inflation, and of course when equities offer good returns, Holmes says.

Gold bears remind investors that a massive fall to $624 an ounce in just a week followed the 1980 peak and that could happen again. But the run-up back then was lightning fast -- up $377 an ounce in three weeks -- while the current rise has been much more gradual.

The rise has done wonders for mining stocks. Along with bear market funds, which make money when stocks fall, gold and precious metals funds are swimming against the red tide. In the past month the category jumped 7.91%, while the S&P 500 lost 7.98% and the MSCI EAFE dropped 10.44%, according to Morningstar.

Last year, many gold stocks underperformed bullion because the price of oil rose faster than the price of gold, Holmes says. Oil prices account for 20% to 40% of gold miners' operating costs.

"In the last quarter of '07, gold finally started to move faster than the price of oil," Holmes said. "So we're going to see companies demonstrating a healthy return in their earnings."

Problems in securing energy may cut down production. South African gold miners stand to lose $12 million a day in earnings because of a lack of power, according to Muneer Ismail of Deutsche Securities. AngloGold Ashanti AU, Gold Fields GFI and Harmony HMY have had to shut down all deep-mining operations. Ismail issued a sell rating on all three.