Monday's precipitous drop in the yellow metal just ahead of the COMEX open had no particular trigger. Weaker than expected economic data out of the Eurozone and Germany weakened the euro (strengthened the dollar) somewhat, but the dollar move certainly didn't warrant a drop in gold of nearly $27.

Rumors circulated that central banks were selling gold in support of the dollar. There was also a rumor that a hedge fund liquidated about 2Moz in thin market conditions. UBS research categorized it as a "messily executed" large sell order in a period of poor liquidity. Technical supports were triggered, sparking additional long liquidations.

It seems that the hedge fund is the more likely culprit, although no word as to why the fund was selling. Perhaps it was a forced liquidation to cover a margin call in another market, or it could have just been profit taking ahead of the FOMC meeting/end of the quarter.

Gold is probably going to want to retrace to the point where the sell-off began, around 903.05. Nearly 61.8% of the decline has already been retraced, but the market is understandably being cautious. There seems to be some lingering doubts as to what caused yesterday's retreat.

A rebound above 895.85/896.67 would bode well for renewed tests above the pivotal $900 level. A break of more formidable resistance at 907.90/909.05 would return additional confidence to the long-term uptrend.

The S&P/Case-Shiller home price index came in slightly better than expected. Home values in 20 major US cities fell 1.4% in Apr, down 15.3% y/y. While these data are reported with a 2-month lag, the trend for home prices is decisively bearish.

Tighter monetary policy is certainly not going to help reverse the trend in home values. In fact, there is considerable risk that higher interest rates will accelerate the downtrend by making credit less readily available, effectively removing prospective buyers from the housing market.

For this reason alone, it seems the Fed will continue to view inflation as the lesser of two evils. While I do expect the Fed to hold steady on rates tomorrow, I don't believe it is likely they will launch a tightening cycle before late-Q4.

While I do anticipate inflation will get top billing in the FOMC policy statement, I believe the tone will be more measured than many market participants are expecting.

A weak reading in consumer confidence for Jun is anticipated and that too will give the Fed pause with respect to a particularly hawkish policy statement.

If there are no strong indications that a tightening cycle is at hand, look for the dollar to go back on the defensive within the recent range. A weaker dollar is going to further exacerbate inflation, in particular energy-based inflation.

Oil remains within striking distance of the all-time highs, underpinned by continued supply concerns and worries of an impending attack on Iran.

The market seems to have shrugged off Saudi Arabia's pledge of increased production through the end of the year, as well as the cease-fire in Nigeria.

Traders either don't believe the cease-fire will hold, or don't believe Nigeria will be able to recapture the approximate 25% reduction in daily output seen as a result of rebel attacks on oil infrastructure.

Rumors circulated earlier in European trading that Israel had launched an attack against Iranian nuclear facilities. That rumor has since been discounted, but suggests that geopolitical tensions in the Middle East are likely to remain high through the remainder of the Bush administration.

Physical gold is the ideal hedge against these geopolitical tensions; as well as general economic uncertainty, a weak dollar, inflation, and systemic risks to the US and global banking system.

Our research shows that cyclical buying opportunities in the gold market emerge in the months of June and July. Purchases during these months have, with near perfect consistency, allowed investors the very latest-possible opportunity each year to buy gold at levels still below the forthcoming average annual price for that year.

Gold Market Movers:

US consumer confidence for Jun at 50.4. Market was expecting a new 15-year low near 56.0.

US S&P/Case-Shiller Apr home price index for 20-cities -1.4%. Market was looking for a drop of 2.0%, versus -2.2% in Mar.

FOMC begins two day meeting, culminating with rate announcement tomorrow at 14:15ET.

German GfK consumer confidence for Jul fell to 3.9, well below market expectations, versus 4.7 in Jun.

Home prices fall 15.3% in past year, Case-Shiller says

Gold prices could soon retrace the $1,000 level

Another gold attack, then north to $2,000

Dow Chemical raises prices by up to 25%

Inflation psychology troubles central banks