Wall Street Journal reports GATA/Howe lawsuit

Gold producers divided on hedging

By Adrienne Roberts
The Financial Times
February 21, 2001

In any other industry, the closing out of a small hedge
position would attract little interest. It would not be
considered worth a public announcement, nor would it
push up a company's share price. Only in the gold
industry is hedging such a politically charged issue.

When Gold Fields, South Africa's second largest gold
producer, closed out its only hedge, 160,000 ounces of
forward sales at the Tarkwa mine, Chris Thompson,
chairman, told the market: quot;Gold Fields is now totally
unhedged, which is an affirmation of our policy.quot;

Gold Fields is now the last of South Africa's unhedged
producers. A few days earlier Harmony lost that status
by purchasing 1 million ounces of put (sell) options to
satisfy its bankers.

The announcement underlined the ideological rift
between miners such as Gold Fields, which believe in
exposure to the gold price, and those that seek
downside protection.

Producers that hedge are often accused of undermining
the spot gold price. It is accepted that the activity
accelerates the flow of gold on to the market. This, in
the absence of compensating factors, can put pressure
on prices.

In a 2000 report, Jessica Cross, head of Virtual Metals
Research and Consulting in Johannesburg, asked 31
mining companies, accounting for about 40 percent of
global production, whether they were concerned by their
actual or potential adverse influence on the gold
price.

Eight companies chose not to respond. Of those that
did, more than half quot;acknowledged that they were first
aware, and second concerned, about their hedging
activities.quot;

One company said it thought producers' collective
activity did affect the price, while another said: quot;We
have to look after ourselves and hedge anyway.quot; A third
said: quot;We try to stand back in price weakness.quot;

Ms. Cross says the impact of hedging is closely
dependent on the state of the market at the time of
execution.

quot;I have seen the market take half a million ounces at a
clip and not react because of good counterbalancing
two-way trade. At other times, when the market is thin
and illiquid, I have seen the price respond to a
20,000-ounce deal.quot;

Kelvin Williams, who is responsible for Anglogold's
hedge book, said: quot;We have never seen a shift in the
spot price consequent on an Anglogold hedge action.quot;

Deals are done entirely over the counter between the
company and its bankers, and the bank places the
physical metal directly with its counterparties in the
fabrication business.

quot;The price as we've seen it, over more than a decade,
tends to be made on the margin on the publicly-traded
paper market. That can be seen in the way spot price
movements are correlated to shifts in the open interest
position on the New York Commodities Exchange (Comex),quot;
said Mr. Williams.

Many mines that hedge say they do less damage than the
speculators and investors because miners, which have
unsold bullion and unhedged output to worry about, have
the greatest incentive to protect the gold price. By
contrast, they argue, when a speculator takes a short
position, he or she is betting on a fall in the gold
price.

This time last year, the big producers were talking
about delivering into their hedges and running down
their forward positions.

Their hope, after the gold price rose from 20-year lows
in late 1999, was that the rally marked the beginning
of a new price range for the metal.

With gold approaching 1999 lows again, however, those
hopes have been dashed, and hedge managers are back to
business as usual.

Placer Dome said in February 2000 that it would stop
adding new positions. Last week Rex McLellan, chief
financial officer, said the company was maintaining a
quot;balanced programme of forward selling to provide a
prudent level of downside protection to its gold
earnings and cash flow.quot;

The present climate is a conducive one for hedging.
Dollar gold prices may be down, but the South African
rand and the Australian dollar have both hit record
lows in recent months, sending the local currency price
of gold to record highs.

Also, gold lease rates are down by about 1 to 1.5
percent, compared with 7 percent in 1999. This lowers
the cost of hedging, which relies on borrowed gold.

While the expected reduction in hedging has not
materialised, there are other trends afoot. Gold
producers are increasingly shunning highly-leveraged
and complex derivatives in favour of quot;plain vanillaquot;
contracts.

This stems partly from the imminent introduction of
more stringent accounting regulations and partly from
bad experiences, such as the heavy paper losses run up
by Ashanti and Cambior in 1999.

Ms. Cross believes the long-term trend is still toward
a decline in hedging. One reason is a fall in
exploration spending, which means fewer new projects
requiring derivative-based project financing.

A second possibility is that weak gold prices force
producers to revalue their reserve bases. For some,
this will make it harder to hedge a greater proportion
of gold underground.