Gold sets new highs

Gold soared to an all-time high of $1,045/oz yesterday, sparked by a couple of news items this morning. Both illustrate the point we've been making in recent months that the rationale for investing in gold stems from what is happening (and likely going to happen) to the dollar.

One of the news items that sparked gold's rise was a report in the U.K. newspaper The Independent that Gulf Arab states, along with China, Russia, Japan and France, are planning to stop dollar-based trading in the oil market and move, at least on an interim basis, to conducting oil transactions based on a basket of currencies which would include gold. It's important to note that this report was quickly denied by several of the countries reportedly involved. But the very fact that it comes across as so reasonable strikes to the heart of the matter. If such a thing were to happen, obviously there would be a lot of extra dollars floating around that are currently being used to transact these oil deals. Not surprisingly, the dollar fell on the report, with oil and gold rising sharply (or perhaps it would be more accurate to say that their value in dollars rose sharply).

The second news item that contributed to gold rising was the surprise rate hike by Australia, the first move among the major economic powers to tighten monetary policy (or "reduce the stimulus effect on monetary policy" as they put it). This is potentially significant, in part because the US Fed is already on record that it isn't planning to change its monetary policy any time soon. That was less of a big deal when nobody else was raising their rates either. But now that one of the big boys has taken the first step, it may start to open a rift between the currencies of those countries that are raising rates and those that are not, putting further pressure on the dollar.

After gold pulled back from its mid-September high, there was much debate as to whether it would suffer a significant correction, as it has repeatedly on past attempts to eclipse and hold the $1,000 level, or keep rising and take out the $1,033 highs set in March 2008. That it has now taken out that prior high seems to be a clearly bullish sign, although surprisingly, gold timers haven't been very optimistic lately.

(It's worth pointing out that on an inflation-adjusted basis, gold is nowhere near its all-time highs from January 1980. Using the government's official CPI inflation data, an inflation-adjusted high price would be roughly $2,350. Using John Williams' ShadowStats inflation data that price would be north of $6,000. Either way, it's easy to understand why gold bugs feel there is plenty of room to run in this gold bull market, despite the fact that gold has already tripled over the past decade.)

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Mark Biller is Sound Mind Investing's Executive Editor. Visit www.soundmindinvesting.com to learn more.