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LONDON (Reuters) - Gold prices may suffer short-term damage if selling from physically backed exchange traded funds extends for a second month, but silver is more vulnerable in the longer run as it lacks gold's broad-based sources of demand.
The largest gold ETF, the SPDR Gold Trust, recorded its second-biggest monthly outflow ever in January, while gold prices posted their worst monthly performance since December 2009.
Well received U.S. economic data lifted interest in cyclical assets such as stocks last month at the expense of safe havens such as gold. SPDR ETF holdings dropped 53.6 tonnes.
ETF sales do more than just reflect waning appetite for bullion. Large outflows in themselves exaggerate downward price moves as they add extra supply to the market.
January was the first time that falling prices accompanied heavy selling from the fund. In December 2009, for example, its holdings actually rose more than 3 tonnes as prices fell.
If significantly more ETF gold were to hit the market, it could have a short-term impact on prices. But analysts say there are plenty of other demand sources out there to mop up supply, as long as good underlying reasons to buy gold remain.
"We are still in a zero interest rate environment, we still have major fiscal issues in Europe, America and Japan, we are still seeing lack of confidence in fiat currencies," said Philip Klapwijk, chairman of metals consultancy GFMS.
"I don't think we are at the beginning of a secular change in direction. The bull case for gold is still intact."
Investors are still likely to show interest in ETFs in times of financial and political turmoil, analysts said. The monthly drop notwithstanding, SPDR holdings managed to edge up around 3 tonnes on January 31 as concerns over unrest in Egypt deepened.
ETF buying has recently been a huge source of gold demand, with the three largest fund operators -- SPDR, ETF Securities and Zurich Cantonal Bank -- adding 18.216 million ounces of gold to their holdings in the two years to late January, equivalent to a year's gold output from top producers China and Australia.
Nick Brooks, head of research at London-based ETP operator ETF Securities, said though he expects the outlook for growth and interest rates could prompt selling of gold in the short term, demand for the metal is likely to stay firm this year.
Premiums for gold bars in much of Asia last week were at their highest since at least 2004 in the run-up to Chinese New Year and India's wedding season. The two countries are the world's biggest consumers of physical gold.
Gold prices could see another leg lower as this strong seasonal demand tails off this month, but overall Asian demand is likely to be strong in 2011 as the Chinese market benefits from liberalisation and prices stabilise.
"There could be a shift in the investment focus towards inflation in Asia particularly, leading to stronger physical investment demand in that region," said RBS analyst Daniel Major. "That tends to not be in ETFs so much as in physical bars and coins."
The broad-based demand that supports gold is lacking for silver. The grey metal is less popular than gold in key bullion-buying centres such as India, China and the Middle East.
Last year's surge in silver prices, particularly in the fourth quarter, was driven largely by investment. The largest silver ETF, the iShares Silver Trust, added 1,135 tonnes to its holdings in that period, while prices rose 42 percent, their biggest quarterly increase in at least 20 years.
That rise leaves silver vulnerable to a correction if large quantities of metal are returned to the market. ETFs, which issue securities backed by physical stocks of metal, have taken a significant amount of silver off the market in recent years.
"It is fair to say that silver would be more vulnerable," said Credit Suisse analyst Tom Kendall. "Personally I don't think it has the breadth of investor interest than gold has, either geographically or through the type of investor."
"Industrial demand is pretty good at the minute, and it is recovering as the global economy recovers," he added. "Undoubtedly that is good for silver, but I don't think it is good enough to offset that kind of investor liquidation."
iShares Silver Trust saw the biggest ever monthly decline in its holdings in January, down 495 tonnes. This accompanied a 9 percent price drop, the biggest since June 2009.
It does have an industrial demand element, largely from the electronics sector, but that is unlikely to support prices at the near 31-year highs it recently hit.
"If silver's rise since August was pricing in industrial recovery, it is pricing in a lot of it," said Mitsubishi Corp analyst Matthew Turner.
"Silver has come down more than gold in this correction, as you would expect as silver tends to be more volatile. But it does suggest that it has not had any real benefit from rising expectations of strong industrial production growth."
Reporting by Jan Harvey; Editing by Jane Baird