* GLD fund set for biggest monthly outflow since 2004 launch
* Other physical gold funds also see outflows in February
* Continued outflows after price recovery seen as bearish
By Jan Harvey
LONDON, Feb 28 The world's largest gold-backed exchange-traded fund is on course for its biggest monthly outflow since its inception, outstripping declines seen during similar bullion price falls, as investor confidence in the metal falters.
Holdings of New York's SPDR Gold Trust this month have fallen by the most since 2004, while smaller gold products such as the Comex Gold Trust and ETF Securities' GBS fund have also reported declines.
Those coincide with the largest monthly fall in gold prices since May, hurt by perceptions that other assets may offer a better return at a time when signs of a turn in the economic cycle are emerging.
ETF holdings have in the past proved relatively resilient to price corrections. When spot prices fell 6 percent last May, holdings of the GLD fund declined by only 8.1 tonnes, or 0.6 percent. A 10.4 percent price slide in December 2011 saw outflows of 44 tonnes, or 3.4 percent.
This month's 3.8 percent price drop has been accompanied by an outflow of nearly 70 tonnes from the GLD fund, accounting for more than 5 percent of its total holdings.
"Who exactly has been liquidating, and why, we don't know, but it has been spread across multiple funds, suggesting a reasonably broad-based exit of some investors from physically backed gold funds," Credit Suisse analyst Tom Kendall said.
"Unlike previous periods when you could make the case that some of that liquidation had been from people transferring to allocated gold, I would very much doubt that has been happening on this occasion. I haven't had any indication that there's been a switch out of ETFs and into allocated physical."
Exchange-traded products like the GLD, which issue securities backed by physical gold, have proved a popular way to invest in bullion in recent years.
But the high visibility of ETFs in the gold market gives them a disproportionate influence on investor confidence in the metal, meaning selling can quickly gain momentum.
Some high-profile investors have already liquidated their holdings in the fund, most notably George Soros, who cut his admittedly small stake by half in the last quarter.
GLD's largest stakeholder, U.S. hedge fund manager John Paulson, whose holding tops 5 percent, had maintained his stake at that time. Analysts say much of the money that has flowed out of the GLD, and ETFs in general, will be held by shorter-term investors keen to either lock in gains or limit losses.
"In the last few years you've seen more and more players with a shorter-term investment horizon playing the gold market through the ETFs," Bank of America-Merrill Lynch analyst Michael Widmer said.
"A lot of the faster money has left, that's for sure. (But) among longer-term investors, I'm not sure we've seen a massive readjustment of expectations."
A more sustained outflow could spell big trouble for gold, if it suggests that those longer-term investors are changing their view.
"It's early days," Deutsche Bank analyst Daniel Brebner said. "But if we were to see further drawdowns, it may reflect a serious challenge to those who believe gold prices are going to move higher in the same way they have over the last 10 years."
While ETFs have represented a solid source of demand for gold, the size of their holdings - some 2,265 tonnes in total, more than is held by Japan, Russia and the European Central Bank combined - means in theory that a large-scale liquidation could release a substantial volume of metal back onto the market.
In a note this week predicting that gold prices would average $1,600 an ounce this year - which would be the first yearly dip in average prices since a bull run which began in 2001 - Goldman Sachs said ETF holdings will likely be a key sign as to the longer-term health of the gold market.
"The latest collapse in gold ETF holdings stands in sharp contrast to our assumption that ETF positions were likely driven by longer-term allocation rather than short-term trading," it said. "A continued decline in ETF holdings driven by rising real rates precipitates and accelerates the decline in gold prices that we had expected later this year."
Prices have recovered some ground after hitting seven-month highs earlier this month, pulling back above $1,600 an ounce. ETF flows data in the next few days will be closely watched to see whether a steadier price environment is stemming outflows.
"Trying to catch the price at the bottom is like catching a falling knife," Mitsui Precious Metals analyst David Jollie said. "People are happier buying when we're on the way back up, so what will really be interesting is whether this turns around and we see net buying when the price comes up."
"That would suggest that people see a medium or longer-term benefit in gold."