Gold, silver pare losses as dollar turns lower

NEW YORK (Reuters) - Gold and silver prices pared losses on Thursday as a dollar drop sparked a sharp reversal, while uncertainty related to U.S. Federal Reserve's monetary policy and worries about global demand kept prices from rising further.

Silver fell 3 percent, sharply off early session lows after the Shanghai Gold Exchange lifted its margin requirements for the metal, which lost nearly 30 percent last week after successive U.S. futures margin increases and as investors dumped silver exchange traded funds. Gold prices were little changed.

Despite this week's sell-off, silver prices have still nearly doubled and gold was up about 25 percent since August when Federal Reserve Chairman Ben Bernanke's Jackson Hole speech marked a second round of asset purchases.

"When you had gone on those runs, every market is due for a pullback," said Jeffrey Sherman, commodities portfolio manager of DoubleLine Capital, which manages more than $10 billion assets.

"Just because you had a pullback doesn't mean that the long-term secular bull market is over," Sherman said.

Silver fell 2.8 percent to $34.08 an ounce by 3:34 p.m. EDT. COMEX futures trading activity was active, 70 percent above its 30-day average, consistent with stronger volume during last week's sell-off.

Spot silver sharply bounced off a session low of $32.33, as the metal appeared to find support at its 150-day moving average at $32 an ounce.

COMEX open interest, a measure of overall liquidity, continued to fall on Wednesday, about 10 percent below last Thursday's peak, indicating more investors were exiting their bullish positions even as others initiated bearish bets last week.

QE2 UNCERTAINTY IN FOCUS

Investor uncertainty related to the end of the Fed's second round of quantitative easing, dubbed QE2, also prompted commodity investors to take some bets off the table, said DoubleLine's Sherman.

Financial markets are bracing for the conclusion at the end of June of the Fed's cheap-money policy of quantitative easing. Under the policy, the Fed has been making regular purchases of U.S. Treasury debt, aimed at reaching $600 billion by the end of the second quarter.

When the Federal Reserve finally decides to begin draining cash from a flush U.S. banking system, policymakers may find themselves armed with more tools than they know what to do with.

Also weighing on commodity prices was data showing the U.S. economy struggled to gain momentum early in the second quarter, with retail sales posting their smallest rise in nine months in April and wholesale prices increasing more than expected.

MARGIN INCREASE

Increases in the amount of money exchanges require to trade silver have rattled futures markets. Speculators have liquidated long positions in silver in both New York and on the Shanghai Gold Exchange (SGE) in recent weeks, pressuring the metal.

UBS said in a note that SGE's margin increase may spook some investors who are still bullish on the metal.

"The only thing we can be certain of in silver right now is that the roller coaster journey is going to continue for some time," UBS said.

Spot gold was up 0.1 percent at $1,501.04 an ounce. U.S. June gold futures settled up $5.40 at $1,506.80 an ounce, after trading in a range from $1,477.60 to $1,509.70.

Gold dropped more than 1 percent on Wednesday and silver nearly 9 percent as hefty gains in the dollar prompted selling across commodities.

Oil and base metals, like copper and aluminum, also turned higher on the dollar's turnaround, after initial weakness as buyers of industrial commodities worried about the outlook for economic growth from major consumers China and the United States.

Among platinum group metals, platinum eased 0.5 percent at $1,762, while palladium also dropped 0.5 percent to $709.97 an ounce.

(Additional reporting by Jan Harvey in London; Editing by Marguerita Choy)