A gold rush is described as a period of feverish migration of workers into the areas of dramatic discovery of gold – the yellow metal.

In the mid-1930s Gold was $35 an ounce and was fixed in price against the dollar upto the late 1960s. However, to finance the Vietnam War USA had to issue a lot of new dollars and could no longer afford to offer an ounce of Gold for just $35. In the 30 year period, the value of dollar had fallen down due to inflation, but Gold remained under-valued against its inflation-adjusted price. This phenomenon was repeated again for the 30 year cycle till 1990 when Gold again became undervalued. The supply of dollars was increased once again, as it was no longer mandatory to settle your trade balance bills with Gold.

Cut to 2011, the interest rates are very low. Hence, there is little opportunity cost for holding Gold as compared to the negative short-term interest rate as compared to the inflation. Spot gold is trading at its highest levels in history. Now what exactly are the reasons which are driving the recent rallies?

Safe haven status:

The spot market selling price for gold is a direct measure for the mining company’s profit margins. Depending on the quality of the ore and other regional factors, gold in the USA is produced at an average cost of $400 to $600 per ounce. Rising debt concerns and uncertainty in the equity markets has made investors switch to safer investment tools like gold, silver and other precious metals. The massive demand for gold pushed prices above $1,900 recently as the open interest for gold options climbed to a record 1.26 million contracts on August 18.

Strong fundamentals:

There will be a near-term decline in the gold prices because of the effect on the trade volumes of increases in the margin trading cost. However, in the long run, the fundamentals for gold remain strong and investors will continue to invest in the precious metal until they rediscover the confidence to invest in the equity markets.

India and China, the largest consumers of gold, look set to continue to drive the demand. The domestic demand in India is seen robust in the near term and the Chinese government continues to increase its gold reserves. Meanwhile, the domestic demand in China for gold and silver continues to grow along with the increasing middle class incomes in the country.

Festive season:

Although, the yellow metal has rallied in the past few months, historically the demand picks up at the end of August. At the second half of the year, the demand is driven by the holiday seasons. The Indian New Year comes around October boosting the domestic purchase of gold. Around year end during Christmas, the demand for gold jumps as well, which is followed by the Chinese New Year in February.

So in all probabilities, it looks like the current Gold Rush is here to stay for a slightly longer time. And it is to no one’s surprise that the soaring gold prices are just a predictor for the collapse of paper money currencies with the Euro and the Dollar facing huge challenges. Globally, the central banks have started buying gold to strengthen their reserves. If the global financial situation continues to remain grim, gold holdings by central banks will increase which, in turn, will push up prices further.