European policymakers may help fuel a rally in the price of gold

Recent measures by European policymakers may help fuel a rally in the price of gold, according to TD Securities strategist Bart Melek.

In a note to clients published on Tuesday, Melek wrote the following:

The gold market went into correction mode at roughly the same time as specs started taking outsized short euro positions and boosted their gold shorts slightly. The uncertainty associated with the European sovereign debt crisis was the prime catalyst behind the move away from the euro and gold.

With European governments becoming more committed to recapitalizing the European banking system and providing a plan to backstop highly indebted EZ (eur zone) nations, there may be less impetus to buy dollars in order to build cash positions. The required bond issuance to fund the European Financial Stability Facility (EFSF) will very likely deepen the euro bond market and may very well lift euro demand, prompting short covering of euro positions and depressing the greenback. Gold could very well rally as traders cover their short euro and gold positions, and as there is less impetus to build dollar cash balances.

The gold price retreated on Tuesday, falling nearly 1.1% to $1,661 per ounce. Risk aversion rose across the globe, leading to lower stock and commodity prices. Oil and copper prices fell 1.2% and 3.5% to $84.35 per barrel and 3.24 per pound, respectively.