What's in store for gold pricing

[EZ_E]

Neither a borrower nor gold lender be [Gold Bugs, Heads Up!]

Financial Times ^ | 6/6/3 | John Dizard

 

 

Posted on 06/06/2003 9:07 AM PDT by NativeNewYorker

 

 

The religious war in the gold market reached a climax this week with the announcement by Newmont Mining that all but one of the gold lenders to its Yandal mines in West Australia had agreed to take 50 cents on the dollar to liquidate their claims.

 

Newmont's buy-out offer, which effectively saves the Yandal operation $77m, is a stunning blow to the gold banking business.

 

For the past two decades, gold mines have been developed using the gold lending market. Roughly speaking, banks borrow gold from central banks and lend it to mining companies. The mining groups sell the gold, use the capital to develop mines, and pay the loans back from their production. Since gold interest rates are far below rates for borrowing in dollars or other main currencies, this has been a cheap way to build capacity.

 

But some gold investors, along with some gold mines, have believed that when mines "hedge" their gold production by borrowing, then selling the gold, they depress the price and cannibalise their ability to profit from future price rises. The "hedgers" believe they are only following prudent practice for commodity producers.

 

This hasn't been a gentlemanly dispute. Newmont, now the biggest gold producer, has become the leader of the anti-hedging group. It acquired Yandal when it bought out Normandy Mining. Yandal, which is comprised of three mines in the Western Australian desert, has repeatedly seen its ore reserve numbers reduced by management, the engineers and the accountants.

 

According to Newmont, the most recent and relevant numbers showed proven and probable reserves of 2.12m ounces at the end of last year, against which 3.5m ounces of gold had been sold in hedge contracts. As a quick pass with a supercomputer will show, 3.5m is larger than 2.1m. Therefore the hedge contracts were insupportable.

 

Since the mine's finances are not guaranteed by Newmont, and Newmont doesn't feel like bailing out the banks voluntarily, the banks have no choice but to accept essentially an out-of-court bankruptcy workout.

 

Not so fast, say the gold bankers. Newmont is perhaps not being entirely straightforward in using the "proven and probable" reserve numbers. "The relevant number is the one for the total resources," says a gold lender.

 

In any event, when one of Yandal's gold banks decided last month that it wanted to call in its gold loan, Newmont decided to "play chicken with the banks", in the words of another banker.

 

So far, all but one of Yandal's gold banks have accepted the 50 cents on the dollar deal. The alternative would have been to take their chances in court. On the face of it, they might have done better going that route. Since they should be secured lenders, they should have had a good chance of getting all their money back, admittedly after a lot of lawyer time and, more depressingly, trips to the western Australian desert to visit their new property.

 

However, we may get to see some further twists in the story, since Newmont will not close on the buy-out offer if it is not accepted by all the banks, which has to happen by June 21. One hold-out means the exchange, and with it a related buy-back of a bond issue, could be junked.

 

In the meantime, the gold lenders to Yandal had to balance their books and offset their newly naked short position by buying up gold over the past few months. That 2.5m to 3.5m ounces of gold demand has helped run the price up to its recent peak of around $390. Since the uncollectible loans have been covered, demand and the price have slumped.

 

"[Newmont] turned this into a battle of wills with the bullion banks," says one banker. "They paid over the top for a dry hole and got the money back from the banks."

 

Few doubt that miners will find it far more difficult to borrow gold on the same good terms they had before. Banks will want much tougher documentation. Among other points, they will want to make sure that all gold lenders are treated on the same terms. They will want to make sure reserves numbers are real. They will be reluctant to do project financing, or off-balance-sheet financing, of new mines.

 

That means mines will have to be developed with equity financing or the security of a mining company's entire balance sheet and cash flows.

 

Even the gold bulls think it likely that the gold price could fall back for a while, as gold lenders have probably finished covering their Yandal position.

 

There may have been a 1,000 tonne swing in gold demand over the past year caused by hedge buy-backs. That would explain much of the price rise. Any future price rise will have to come from a revival in real investment demand for gold. The bulls hope that will come from new exchange-traded gold bullion shares.

 

The bears, and the bullion banks, think the gold bugs and Newmont have made a massively wrong call.

 

 

 

--------------------------------------------------------------------------------

 

[CarlWohlforth]

The Mining cos not only hedge to borrow capital many also simply hedge against future production. While this gives away any future gains due to rising prices it also locks in current prices which would sound brilliant if prices fall in the future.

 

If I knew what was in store for gold pricing I would bet heavily on that outcome, wait, cash in and then buy more coins

 

[michael]

i like the accessment victor

 

a great thread but i bet since it is a great thread and inportant this might not get many responses from what i have seen in the past but i guess only time will tell

 

but i think in the short run gold will go down but then rise again from the ashes but in the short term say a year or so i think gold will hit 310 before it hits 410

but we shall see!

 

sincerely michael

[cladking]

Gold bulls may well be on the wrong side of the move, but in an economy where even the gold is on paper it can be dangerous to place all of one's assets in strictly financial instruments. Gold is a handy and relatively portable store of value for most people so its use as a security device and hedge against inflation will continue for many years yet. As in the past the price will be determined by supply and demand and it will experience the greatest demand when confidence in the future is lowest.

 

Gold bears should keep in mind that demand for physical gold on a per capita basis is near all time lows and that a return to more historical rates could push the price significantly higher.

[Higashiyama]

Cladking - "Gold is a handy and relatively portable store of value for most people "

 

Not nearly as handy or as portable as the electronic entry in my bank account, which I can access with a card literally around the world.

 

Very weird things are happening in the financial markets. 10-year government bonds in the two largest economies are currently as follows:

 

USA - 3.10 %

Japan - 0.44%

 

Excess productive capacity exists worldwide. US companies are figuring out how to ship service jobs to low cost areas -- feeding deflation from both a price and (shorter term) demand side. The signs of deflation are everywhere and growing stronger. Regulators may hit the panic button and inflate things -- but my gut feeling is this will not happen.

 

 

 

 

 

[Beijim]

Not nearly as handy or as portable as the electronic entry in my bank account, which I can access with a card literally around the world.

 

I think the point CladKing was making is that the electronic entry in your bank account exists (and has value) at the pleasure of the society at large and its current governments. All it takes is a single database update, and your handy and portable electronic entry is S.O.L..

 

If you think this far fetched, look around the world at the nations that routinely declare their existing currency to be without value. Electronic account balances, while seductive, are even more fragile than physical fiat currency.

 

I'm not preaching a doomsday scenario. I'm simply observing reality. When everything's in the crapper, the only currency you'll have to exchange for essentials will be so-called portable stores of value. Floating point numbers in computer memory won't get you fed.

 

[MikeKing]

I thought gold was supposed to hit $1,000.00 an ounce again. Been hearing that for the past 12 years.

[GDJMSP]

I wonder what will happen to the price of gold now that China has agreed to make it legal for Chinese citizens to own.

[Oldtrader3]

The Mining Guys in Montreal are betting that as long as the gold producers in Canada and South Africa continue to hedge against reserves and future production, gold will not rise dramatically. Canadian gold producers are on razor thin margins with rising extraction costs. They have to promise their shareholders something for ROI.

 

Plus the Russians need FX currency and have been selling their surplus production for years. These factors have held gold prices back for many years and are still in effect. My brother is a Geologist, based in Montreal and he says that no one there thinks gold is going to move dramatically as long as the producers keep hedging their future production.