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American Barrick Essay

574 words - 3 pages

American Barrick Resources Corporation
Managing Gold Price Risk

Gold

Demand Supply
1. Jewelry (80%) 1. Expanding Production
2. Commercial and Soviet Union
Industrial use South Africa
3. Back-up for currencies North America
Australia
2. Central Banks
Liquidation

Factors that may increase gold price:
1. Large government deficits
2. Financial and economic crisis
3. Wars and doomsday scenarios
4. Increase in gold jewelry demand ?
5. Commercial and Industrial demand ?

Factors that may decrease gold price:
1. Financial and economic stability
2. Trends towards democracy and free markets
3. Effective use of monetary policy by central banks
4. Liquidation by central banks

Long-term trend?

Should Gold Producers Hedge Gold Price Risk?

Pros Cons

1. Protect ...view middle of the document...

Forward Sales
Normal forward contract
FT = S (1 + i)T

Gold forward contract
FT = S (1 + i - g)T = S (1 + c)T

where c = i - g
c = contango rate
i = dollar interest rate
g = gold lease rate

The main disadvantages
1. Sacrifices the upside
2. Quantity produced must be known

1984-85 experience – hedged at the wrong time

3. Put Options and Warrants

The main advantages
1. Does not sacrifice the upside
2. Quantity produced doesn’t have to be known exactly

Variations:
The collar Strategy

Buy puts (with a low exercise price) financed by writing calls (with a high exercise price).

Example – Buy a put at $420 per ounce
Write a call at 550 per ounce

Or, Buy a put at $420 per ounce
Write 0.5 calls at 485 per ounce

See exhibit 11

The main disadvantages
1. Option contracts of maturities longer than 5 years unavailable
2. Market was illiquid for maturities longer than 2 years.

4. Spot Deferred Contracts

1. Like a forward contract but allows delivery at the chosen dates by the seller of the forward contract.
2. The forward prices are given as:

FT = S (1 + c1)(1+c2)(1+c3)…(1+cT)

Where S is today’s Comex gold price and
ct (t = 1, 2,…T) is the contango rate between time t – 1 and t, prevailing at time t - 1.

3. If an SDC forward contract is written on 5 million ounces of gold over five years, then the seller can decide how much is to be delivered when but the entire 5 million ounces should be sold over five years at the appropriate forward prices.

4. Allows a minimum price (protects from downside risk), and yet the advantage of temporary price upswings. Can smooth earnings flow.

The main disadvantage:
If the gold price rises steadily forever, then the delivery can only be postponed, but will have to be made at some point in the future. However, the long-term trend in gold price seems downward, so this may not be such a disadvantage

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