"Tumbling gold prices are raising the prospect of a return to hedging - a strategy that’s been shunned by investors and producers who spent at least $10 billion at the end of the last decade unwinding forward sales.
“You can’t just stick your head in the sand and pray that gold is going to go back up again,” Gavin Thomas, chief executive officer of Sydney-based Kingsgate Consolidated Ltd. (KCN), operator of Thailand’s biggest gold mine, said by phone. He’s considering hedging despite investors’ resistance. “Hedging is a call on gold. If you believe it’s going up you don’t hedge, if you believe it’s going down you do hedge.”
Petropavlovsk Plc (POG), Russia’s second-largest producer, and Australia’s OceanaGold Corp. (OGC) have begun hedging and brokers including Societe Generale SA (GLE) are flagging more may follow to bolster revenue and ensure debt servicing as prices are forecast to extend losses. Gold is heading for its first annual drop since 2000 and any move toward forward sales of output could accelerate declines, according to Bank Julius Baer & Co.
“The days of being beholden to a religious belief that the gold price will rise are gone, company directors have to be cognizant of that,” said Tim Schroeders, who helps manage $1 billion in equities, including gold companies, at Pengana Capital Ltd. in Melbourne. “There are very few producers who don’t have problems. A lot of them have large debts or high costs. Producers have got to look at” hedging, he said.
Bull Run
Hedging involves mining companies selling future output at fixed prices to secure loans and protect margins. The practice fell out of favor in past 10 years amid gold’s longest bull run in at least nine decades.
Investors pressured producers to unwind their hedge books as prices soared sevenfold during bullion’s winning streak. AngloGold Ashanti Ltd. (ANG) spent $2.6 billion in 2010 to wind up its hedge book, while Barrick Gold Corp. (ABX), the largest producer, took a $5.6 billion charge in the third quarter of 2009 to eliminate hedging.
“It would be a negative impact on price, the more hedging you see, because what it basically does is to take a stream of gold and sells it into the market,” Tyler Broda, a London-based analyst at Nomura International Plc, said by phone, adding that producers already may have missed the chance to lock in prices. “At the top of the cycle, you should have seen mining companies start to hedge.”
Gold, which hit a 34-month low on June 28, is heading for the first annual drop in 13 years and Goldman Sachs Group Inc. forecasts it will reach $1,050 by the end of 2014. Spot bullion closed yesterday at $1,292.22.
Increase Forecast
Standard Chartered Plc forecasts the net amount of gold hedged will soar more than 16-fold to 500 metric tons by 2017 from 30 tons this year. Fitch Ratings Ltd. predicted last month that increased royalty sales, forward sales and gold price hedging may occur for less well-capitalized companies.
“If it’s cheaper to hedge than to issue paper at deep discounts, then it makes sense,” Mark Bristow, CEO of Randgold Resources Ltd. (RRS), said in Johannesburg on July 10, adding his company isn’t against hedging.
A revival of hedging may be a last resort for producers from Toronto to Melbourne who have announced plans to trim spending, sell mines, cut staff and reduce high-cost production in response to a decline in the price of gold that could shave about $10 billion from earnings, according to data compiled by New Jersey-based Kenneth Hoffman at Bloomberg Industries.
Forced to Hedge?
Cutting costs “might not be sufficient given the recent acceleration in the correction of the gold price,” and some producers, including Barrick may be forced to hedge, Philipp Lienhardt, an analyst at Julius Baer Group Ltd. (BAER) said in a June 28 note to clients.
While hedging made sense in the past for Barrick, the company now had other options, Chief Executive Officer Jamie Sokalsky told the Bloomberg Canada Summit in Toronto on May 21. Barrick spokesman Andy Lloyd declined to comment.
OceanaGold, a top 10 Australian gold miner by market value, said June 27 it would hedge 115,650 ounces of production at its Reefton mine in New Zealand over the next two years as the project moves toward care and maintenance.
“It’s just a risk mitigation step - had the gold price stayed up where it was, we wouldn’t have had to do it,” Mick Wilkes, CEO of the Melbourne-based company, said in a phone interview. It doesn’t plan additional hedging, Wilkes said.
With gold dropping from $1,600 “you’re starting to hear conversations from producers about hedging,” said Michael Haigh, head of commodities research at Societe Generale, who in April correctly predicted gold’s rout. It’s likely to be the start of a trend, the bank said in a report last month.
“On the day you put a hedge in, within the next day it is either the right decision or the wrong decision, it never stays static,” said Peter Bowler, managing director of Beadell Resources Ltd. (BDR), which hedged 195,000 ounces of gold at $1,600 an ounce over three years in April 2012 under the terms of a financing agreement. “You go from a hero to zero in this game fairly quickly.”
To contact the reporter on this story: David Stringer in Melbourne at [email protected]
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