Gold bounces back after big plunge

August 25, 2011: 3:55 PM ET
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NEW YORK (CNNMoney) -- Gold prices recovered from earlier losses Thursday to close modestly higher after a major sell-off Wednesday.

Gold futures for December delivery rose $5.90 to settle at $1,763.20 an ounce.

The modest gains came amid rumors that ratings agencies may look to downgrade Germany's credit rating.

Standard and Poor's, Fitch Ratings and Moody's Investors Services said Thursday that they did not have any updates to their AAA-rating on Germany.

On Wednesday, gold prices plunged $95.80, or 5.1%, to settle at $1,765.50 an ounce. Analysts said it was the biggest one-day drop since 1980.

The selling on Wednesday came after gold prices spiked above $1,900 an ounce earlier in the week. Gold had been on a winning streak since early July, when the metal traded around $1,500 an ounce.

Traders said the recent run-up was driven partly by expectations that the Federal Reserve will hint at new steps to support the economy. Fed chairman Ben Bernanke will speak Friday at the Kansas City Fed's annual retreat in Jackson Hole, Wyo.

Those expectations were called into question Wednesday following a better-than-expected report on durable goods.

In addition, gold prices were pushed lower as investors rushed to close contracts ahead of recently announced increases in margin requirements that went into effect Thursday.

The CME Group, which runs the Chicago Mercantile Exchange, announced a 27% increase in margin requirements on Wednesday. It was the biggest hike in years and came after the Shanghai Gold Exchange announced a similar move earlier in the week.

The hikes are designed to control volatility in the market by limiting the amount of leverage traders can use to maximize bets.

"Anyone that's bought gold in a leveraged play is being forced out as margins go up at the close of business today," said Adam Klopfenstein, a senior commodities market strategist at MF Global.

Klopfenstein said the gold market had become "crowded" as institutional investors, such as pension and sovereign wealth funds, plowed money into short-term positions in gold futures.

The gold rush is on

"The people buying gold without a long-term perspective are the ones that are dumping right now," he said. "Long-term, the bull case for gold is still there."

Jon Nadler, senior analyst at Kitco Bullion Dealers in Montreal, said the gold market is being driven mainly by psychological factors.

"It's like the waiting room at a psychiatrist's office," he said. "We've seen fear, despair, greed, denial -- mostly denial," he said.

Nadler said prices could fall further if the metal drops below $1,650 an ounce. But he wouldn't rule out a rebound of about $65 an ounce in the near term.

He said some investors are still expecting the Fed to signal additional stimulus measures at a meeting in Wyoming this weekend. Ben Bernanke, the central bank chairman, is scheduled to deliver the keynote speech Friday.

In any event, he said the recent volatility in the gold market is worrying for an asset that is supposed to be a hedge against volatility.

The drop on Wednesday was the biggest one-day price decline since 1980, he said.

"The psychological damage to the small investor is already shaping up in full force," he said. "They might start leaning toward the side that says we had a bubble, and bubbles don't deflate slowly once they're pricked." To top of page

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