Barrick Gold Races Out of Hedges

“Boosting gold this morning and commodity prices is Barrick eliminating hedges to fully take advantage of the rising gold prices.” — Squawk on the Street 12/1/2009

Gold is nearing yet another all time high price at around $1200 per ounce, as the dollar has weakened on Tuesday. In a bullish move, the world’s largest gold miner Barrick Gold (ABX) has completed the process of removing all hedges on their substantial gold production. We wrote about this bullish action when it was first announced back in September (Barrick’s Secondary Offering to Buy Them Out of Bad Hedging), as the company required a substantial capital raise in order to buy off their hedges.

The original plan was to pay off these contracts over twelve months, but the company’s hand was forced due to rising prices. Since the secondary offering, the price of an ounce of gold has continued to rise by nearly 20%, prompting ABX to accelerate their plans. For those unaware, as the price rises above the hedged price level Barrick had to claim the gains in gold prices as a liability, so the sooner they could pay them off the better as the prices continue upward.

This was an expensive move for Barrick Gold as they paid $5.1 billion in order to eliminate their hedges and more than 80% of their floating contracts as well. The company paid an average of $1070 to pay off these hedges. Now the company is fully exposed to the direction of gold prices, and the fact that they paid such a heavy price for this hedging suggests they believe the downside in gold is limited.

Clearly, gold bugs will view this as further evidence for a continued bull market in gold, and Barrick certainly hopes so. Consider that Barrick is expecting to grow production between 7.7 and 8.1 million ounces in the next year and will lower cash costs at the same time. This could be a major breakout for the stock as long as prices do not head lower in the next few quarters. At Ockham, we have recently downgraded Barrick Gold to Overvalued because the price had risen just a little too quickly ahead of the fundamentals and the company has diluted shareholders in order to make these expensive but necessary actions. The stock is up more than 7% today on the bullish news. We may be inclined to upgrade this stock in the coming week’s report now that they have the ability to become more profitable. However, if there is a reversal in the price of gold it would be tremendously detrimental to ABX.

Barrick Gold Races Out of Hedges

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Ockham Research is an independent equity research provider based in Atlanta, Georgia. Security analysis at Ockham Research is based upon the principle known as Ockham's Razor, named for the 14th- century Franciscan friar, William of Ockham. The principle states that a useful theory should utilize as few elements as possible, because efficiency is valuable. In this spirit, our goal is to make the investing environment as simple and understandable as possible, yet no simpler than is necessary.

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