Gold fell yesterday on profit taking and ended the day down 2.3% at $969.25/oz (silver fell by 3.1% to $13.98/oz).

A short term correction was expected and warned of and this correction was necessary after gold becoming overbought in the short term. Gold had rallied over $100 (from $890/oz on February 9th to just over $1,000/oz on February 20th) or some 12% in less than two weeks. Such appreciation in any asset class in such a short period of time is unsustainable.

Source: Resource Investor

Much of the selling was technical in nature as gold had become overbought and momentum players may have tightened stops loss levels and liquidated long positions after the previous day’s slightly lower close. Leveraged momentum traders and trend followers are influential in the short term but in the medium to long term, gold’s price will be dictated by the fundamentals of supply and demand.

Peak Gold in South Africa

In this regard, the news from South Africa that annual gold production had plummeted 13.6% to 220 tonnes - levels last seen in 1922 - will make the gold bears nervous.

South African gold output has been falling since 1970 when annual production was over 1,000 tonnes. Production peaked at this time and has been falling steadily and sharply since.

While the Eskom power issues contributed to the annual decline last year – the elephant in the room is that South African gold mines are aging and producing lower and lower ore grades all the time and this is leading to plummeting production as seen in the chart below.

While other countries have increased their gold production (notably China – see table) there are increasing fears about the declining supply of gold globally - the world’s mine gold supply has been falling in recent years and it fell to 2,385 tonnes last year, down 3.6 per cent from 2007 (and this despite the rise in prices in recent years).

In the light of the strong fundamentals, this is another healthy correction in the gold market and merely the pause that refreshes as investment demand is set to remain strong for the foreseeable future while supply remains tight, especially as central banks are increasingly reluctant to sell their gold reserves.

Support is at the $930/oz to $940/oz level (previous resistance) and we may need another period of consolidation prior to challenging the record high in 2008 of $1,030/oz.