The gold price advanced $6.81 to $1,088.78 after declining 1.2% in January - a tough month for investments tied to the price of gold, notably gold stocks. The Philadelphia Gold and Silver Index (XAU) plunged 12% this past month and many gold mining producers have now dropped 25% from their December highs. The gold bull market that began in 2001 has persevered through violent corrections, many deeper than the current 11.8% decline off its all-time high of $1,226.50. Gold has risen over the past nine years in terms of not only the U.S. dollar, but in terms of every major global currency in the world. Calls for the end of the gold bull market are getting a bit louder, but the fundamentals suggest there is more room to run.

Following the bursting of the stock market bubble in 2000, governments across the globe flooded the financial system with liquidity in order to tame the business cycle. Rapid money supply growth ensued, which temporarily alleviated the downturn in economic activity. But, this monetary inflation helped to spawn the housing bubble, which led to far-reaching distortions in the financial system. Following the collapse of the housing bubble and the resulting credit crisis carnage, central bankers and politicians once again used easy money policies to prevent a deeper global recession. This pattern of excessive money supply growth has slowly pressured global fiat currencies as the purchasing power of money has steadily eroded. The gold bull market is a direct result of this loss in purchasing power and the declining confidence in the integrity of currencies.

While the price of gold finished the first month of 2010 lower, the underlying fundamentals that have driven the gold price higher over the past decade remain in place. One of the most successful investors in the gold sector over the past decade has been Sprott Asset Management, the Canadian-based investment management firm founded by Eric Sprott. In the most recent edition of Investor’s Digest of Canada, John Embry, Chief Investment Strategist at Sprott, wrote an article titled, “Expect gold to gain more than 30% this year.”

Mr. Embry discussed the recent weakness in the gold price and the euro, along with the rally in the U.S. dollar - noting that a better than expected U.S. employment report initially sparked the U.S. dollar and investors sold anti-dollar bets such as the euro and gold. Sovereign debt issues in Greece further pressured the euro, as concerns over the nation’s ability to fund its growing government deficits became front page news. While acknowledging the market’s positive response to these events, the Canadian investment manager described the jobs data as coming “out of left field” and not consistent with other economic data. Furthermore, he noted that if one were to compare the problems in Greece with that of many states in the U.S. - including California, New York, and Michigan “the problems of Europe’s weak sisters would seem almost trivial.”

The recent outperformance of the U.S. dollar relative to the gold price is not fundamentally-based and is bound to end in the coming months according to Mr. Embry. Moreover, he addressed what he considers to be another urban myth in financial markets - that the U.S. dollar and U.S. financial assets represent a “safe haven.” As evidence for this claim, Embry cited the monumental change in which the U.S. has gone from a significant creditor nation to “the dubious position of being the world’s most obscene debtor nation” due to trillion-dollar federal budget deficits. The role of the U.S. dollar as the world’s reserve currency has therefore been put in significant jeopardy in Embry’s view, opining that the “budget conundrum is insoluble and the dollar is now nothing but a hollow shell.”

To further his investment case for gold, Embry contended that financial markets have considerably underestimated the potential impact of higher interest rates on the U.S. federal-budget deficit and overall economy. He speculates that higher interest rates are likely in the near future due to the inflationary consequences of the easy monetary policies of the Federal Reserve. The ability of the U.S. to service its ever-rising debt costs will become even more challenging as higher rates cause interest costs to compound at an accelerating rate. Consequently, if - or perhaps when - the U.S. is unable to continue to finance its growing deficits, the status of the U.S. dollar as a “safe haven” will end and gold will gain in prominence as a monetary alternative.

Mr. Embry went on to provide some rather harsh words for Federal Reserve Chairman Ben Bernanke - whose efforts to fight deflation have provided a tailwind to the gold bull market. Embry was “appalled” to see Time Magazine name Bernanke as its 2009 “Person of the Year” given the Fed Chairman’s primary role in creating the problems that led to the financial crisis. The Canadian fund manager cited Bernanke’s lack of economic foresight as the credit bubble was developing and his decision to bail out the stakeholders and management of failed financial institutions at the expense of taxpayers.

Bernanke destroyed the Federal Reserve’s balance sheet, replacing U.S. treasuries with “massive amounts of toxic mortgages and other junk waste” through its quantitative easing programs. Furthermore, Embry pointed to Bernanke’s “unmitigated gall” in reference to the Fed Chairman’s recent comments that there are little if any inflationary consequences for these actions.

Embry reiterated his outlook for the gold price in 2010 with a rather distinctive prediction:
“I expect 2010 to be a banner year for gold and silver as the true depth of the world’s financial malaise is more widely acknowledged. In this environment, I anticipate that gold, in particular, will garner increasing recognition as the only real money and the true safe haven as the slow motion trainwreck of the world’s fiat currency system begins to accelerate.”