Gold Hedges Reward But Seen Falling to New Low

July 26, 2013 at 09:33


A plunge in the price of gold this year has led to gains for Australian miners who struck hedging deals as protection against sharp price swings.

The precious metal has fallen sharply since the start of the year, hitting a three-year low of $1,180 a troy ounce last month. It has declined further in Australian dollar terms.

The move has helped several companies with forward contracts to buy gold on the market and deliver the metal, said gold consultants Thomson Reuters in its quarterly report.

“Australian dollar denominated put and forward sale contracts became increasingly in-the-money during the second quarter,” said Matthew Piggott, analyst at Thomson Reuters .

Some miners such as Reed Resources have used the proceeds to pay back loans. The Australian miner said it had closed its hedging position, realising $27m in cash and repaying $19m loans from Credit Suisse. Other junior miners including Mutiny Gold and Teranga Gold also eliminated their hedging contracts.

Hedging – in which gold miners use forward sales or options to protect themselves against price declines – secures the delivery price of the metal, but is not popular with the sector’s shareholders as it also caps the gains in a rising market. Although most miners would rather not hedge, banks have required smaller producers to enter into hedging contracts as part of a lending or project finance agreement.

Among the miners who turned to hedging to stabilise some of their returns was Petropavlovsk, the London-listed mid-cap gold miner run by Peter Hambro.

The company hedged just under half its production earlier this year at a price of $1,663 a troy ounce, well above current prices of $1,350. Later, it hedged another three tonnes of gold at $1,408 “in response to the volatility in the gold price”.

Miners Red 5 and Shanta Gold were among a handful of miners entering into small hedging contracts.

For much of the past decade, the gold price has risen. Yet, even in the face of falling prices, not many miners were turning to hedging, said Thomson Reuters.

“Many shareholders still have bad memories from hedging in the early 2000s,” said Mr Piggott. There was also a view that prices had already fallen and executives were worried about a further erosion of shareholder value were they to enter hedging contracts and the gold price rebounded.

Moreover, with margins falling sharply, companies were now concentrating on reducing costs and streamlining operations rather than entering into new agreements, he added.

The low level of new contracts, the “de-hedging” by miners delivering against their existing contracts, as expiring hedges and contracts being terminated means the outstanding volume of the yellow metal related to the producers’ hedging contracts has fallen to a new low.

At the end of the first quarter, gold linked to miners’ outstanding hedge positions fell 9 per cent from the previous quarter to 112 tonnes, the lowest quarterly level since the consultancy started reporting the data in 2002.