Gold Derivatives: Gold Derivatives: - World Gold Council

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The model as a whole has no explanatory power (the R remains negative) and none
of the coefficients individually differs significantly from zero. We do however finally
have a negative coefficient on the change in the hedge position. Adding the coefficients
together the model suggests that a 100 tonne increase in hedging will reduce
prices in time by $4.1/oz. The implication that most of the negative impact occurs
the quarter after the hedging change has occurred does not seem very plausible. The
standard error on the estimate is $8.0/oz suggesting we are just picking up noise.
4.1.3 Direction of causation
So far we have interpreted the data as if changes in hedging are exogenous; they
affect the price of gold, but changes in the price of gold do not affect the level of
hedging. But if changes in the price of gold can also affect the delta of producers'
hedge books then this could be masking the effects we are looking for.
There are at least two reasons for believing that gold prices may affect hedge
books. First, if producers hold options in their hedge books the delta will change
with the price of gold even if the producers do nothing to their hedge books.
Second, producers may change their books as a result of a change in prices.
If a producer hedges against a fall in prices by buying put options then the size of
the short position will increase as the gold price falls. This will make the slope
coefficient lower; it cannot explain why the coefficients are positive. The same
holds if producers buy call options. The only way that options could be used to
explain the positive coefficients is if producers collectively have written options.
But we have seen that in aggregate producers are net buyers of options, and hence
this exacerbates the puzzle rather than solves it.
It is also difficult to develop a convincing argument that while hedging does lower the
gold price, the effect is masked by changes in hedging policy induced by changes in
the gold price. One might expect that a fall in the gold price, all other things being
equal, is likely to cause an increase in hedging. Thus GFMS in its review of 1999
explains the increase in hedging in the first three quarters of the year as follows: ’in the
first nine months, as prices plunged through successive 20-year lows, producers desperately
tried to establish some price floor and lock in some margin.’ This could
explain a negative correlation between changes in the gold price and changes in the
producer short position, but that is precisely what we have been unable to find.
4.1.4 Conclusions
We have found no evidence that changes in the size of the producer short position
affect the gold price. We have considered the possibility that the effect is masked
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