RussWinter your quote on a previous post was so good I am going to repost if you don't mind. The prior post was only a URL and might be missed.
ABX "premium gold sales program" (9-30-99) is available at:http://www.barrick.com/main.cfm
It makes for interesting reading given that their assumptions imply a stable, quiet price environment. Therein lies the danger for them.
Key points are as follows:
1. The spot deferred contracts implies an expected future value incorporating an average contango of 4.5% and a lease rate of 2%. In other words the gold
carry trade everybody and his brother has been playing. Question: what happens if there is a run (buying panic)on physical gold for quick delivery and we go
into intango (lease rates spike up and nearby delivery dates trade higher than the fars?
2. ABX is expected to produce 3.7 million oz in 2000. They have contracts for delivery of the same quantity set at 385. They also have 500,000 oz naked calls
written at 315. Maybe that amount of gold (for the calls) is laying around in a vault somewhere? If not, they will need to buy back the position. If POG is 365
that's $25 million in the money, at 415, it's $50 million.
3. Barrick is subject to margin calls on 25% of the program. The "program" has sold 14 million ounces in the spot market. Thus they claim 3.5 million would be
subject to calls. Presumably their derivitive bankers are willing to take the hit (because of ABX's A rating)on the rest in a big gold runup? Even on the 3.5
million, ABX would have to dip heavily into cash on hand to cover. A closer look at their deferred contracts in the years 2002 and on is scary though. There is
3,100,000 sold at 340 in years 2002 to 2005. And 2,700,000 at 361 in 2006 on. Again, apparently generous bankers (if they even survive a gold bull market),
but somebody is going to have to mark the trade. There's no free lunch.
4. They also have 4 million naked call options written for years 2001 on at 350-360. As any experienced option player knows, the key variable here is the
implied volatility of gold. Clearly this is on the increase, and as the black boxes spit out the new premiums somebody has to mark to the market.
Apparently ABX would like investors to believe that the counterparty has assumed most of or all this risk (by allowing naked calls to be converted to spot
deferred contracts) because Barrick is such a respected company and is an A credit (at least right now). This illustrates the problem with the mountain of
derivitives out there. Somebody has to survive the daisy chain to make the situation whole. There is no free lunch when the trade goes wrong. In fact, this ABX
/ counterparty arrangement is so nutty, that my guess is that someone (at the counterparty) has put out the word that it needs to be untangled (slowly they
hope).
To simplify this a bit: ABX has obligations to deliver 18 million ounces (14 million spot deferred contracts, 4 million naked calls) of gold they have already sold
at prices between 330 and 380. They only produce about 300,000 oz a month from their mines. If implied volatilities and prices spike, somebody (ABX, their
counterparties or both) is going to have to put a lot of collateral. It would be insane for ABX to use this price runup to try and fill in their spot deferred deliveries
for 2003 and 2004. Therefore at minimum I expect them to adopt the PDG policy. If not they are in trouble. |
