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Gold/Mining/Energy : Gold Price Monitor -- Ignore unavailable to you. Want to Upgrade?

To: baystock who wrote (68723)	5/4/2001 9:12:16 PM
From: baystock	Respond to of 116931

Dummy's Guide To Hedging The Gold Market May 04, 15:01 By: Tim Wood AngloGold CEO Bobby Godsell made pointed remarks about the industry schism caused by gold hedging this week. "There are theological hedgers and theological anti-hedgers. We find ourselves in the middle. We are simply using it as a business instrument, which has served our shareholders pretty well." At risk of oversimplification, hedging is essentially a lien on gold yet to be mined. Typically, a producer borrows gold for immediate sale, using the cash to fund its activities or to arbitrage interest rates. Also, the funds raised are off balance sheet, which makes firms appear more valuable than they might otherwise be. Provided the price of gold keeps sinking, which it has for a generation, then the mine is better off for having sold its reserves forward at the present value. The loser is the party that agreed to take delivery of the gold in the future when it will be worth less. AngloGold and Canada's Barrick are so far having their cake and eating it, with ounces sold forward beating spot prices for 58 and 53 consecutive quarters respectively. Of course, Ghana's Ashanti Gold Fields and Canada's Cambior proved that it does go wrong, but since then hedging has evolved from linearput options to sophisticated bear market spreads. Potential unravelling While hedging infused much needed capital into the industry, it exaggerated an existing oversupply problem by adding ounces borrowed from central banks to newly mined supplies. You can't defeat a basic principle of economics – if you have more of something, you pay less for it. Making matters worse, an ancillary "paper" market in gold derivatives blossomed. Derivatives were intended to mitigate risk, but the lack of transparency in the market combined with an unspoken commitment by central banks to rescue firms that fall on their speculative swords – like Long Term Capital Management – has had the opposite effect. As disturbing is the secret nature of company hedge books and the fact that just a handful of people in the entire world can honestly claim to understand the mind boggling risk. The estimated net short position in gold exceeds 10 000 tonnes. That position is reasonably safe for as long as the U.S. Federal Reserve continues to manage the economy as it has. Any serious slippage would produce a higher gold price and the resultant margin calls on the short owners would unravel the international financial system in a matter of days. Crossing the line For a militant army of die-hard gold shareholders, the cumulative impact of hedging has irreparably harmed gold. They refuse to accept that hedging is a rational response to falling prices. Gold is held sacrosanct because of its monetary status and hedgers are accused of deliberately dethroning the very product they derive their identity and earnings from. Most hedgers are unapologetically pragmatic and regard it as a no-brainer when your core product loses so much value for so long. Not only does hedging keep producers in business, but they also claim without it, central banks would be inclined to hastier disposals of dusty vault stockpiles. However, the hedgers are increasingly victims of their own success, which is stoking investor bellicosity and absurd claims of a vast conspiracy. It's impossible to draw a precise line indicating where hedging moved from too little to too much. But there is definitely a point in the last four years when central bank sales and producer forward sales catalysed each other, and the resultant chemistry has been fatal for the gold price. Persistently low prices touching twenty-year lows inevitably led investors to heap scorn on producers if only because they are accountable and accessible to thousands of individuals. Blaming only producers and their bankers ignores the much larger interplay among investors, the gold companies, their sources of finance and global economic cycles. Still, there is reason to question the banking bias of the large producers. In the case of Barrick, less than one fifth of its net income before tax is related to gold. The remaining proceeds are all from financial engineering. There is insufficient evidence to declare absolutely that being hedged or unhedged works best. The Ashanti and Cambior versions certainly didn't work, but those for Barrick and AngloGold have. The only way we'll ever be sure is if gold goes to $320 an ounce very quickly and stays there for a long time. Then every hedger will be forced to mark to market in unfavourable conditions and we'll find out just how clever they've been. Similarly, the counter parties to these contracts, mostly the large bullion banks, will have an awesome day of reckoning. Until, if, when. Meanwhile, it's simply about returns and if hedging adds a few per cent then so be it.