Investors' Thinking: Time to Hedge Gold Stocks

By Brad Zigler

As a kid, it was hard to imagine having too much of a good thing. How, I wondered, could more candy be bad? (Many thanks to the family dentists that subsequently saved my choppers from rot.)

Investors now are beginning to wonder if gold's price trajectory, too, might be heading for decay. We're getting renewed interest in our series of gold-stock-hedging articles we ran last year.

Curiosity about hedging seems to have been piqued by the less-than-stellar performances chalked up by some gold stocks this earnings season. One reader in particular, catching sight of some familiar issues in our feature, "Holiday Shopping Tips For Gold Stocks" started looking in the archives to find ways to protect his stocks.

A Desktop article published last December, titled "More On Hedging Gold Stocks," spelled out a hedging technique using the PowerShares DB Gold Double Short ETN (NYSEArca: DZZ) as a way to dampen gold market volatility, but left the reader puzzled about the significance of the "hedge ratio" employed in the tactic.

Professional traders know that the construction of a cost-effective hedge requires leverage. A double dose of short gold exposure supplied by the DZZ note affords this but, to ensure that the leverage is sufficiently expressed, the volatilities of the underlying asset and the hedge instrument must be matched. A hedge ratio describes how much of the hedge instrument ought to be employed to counterbalance the expected variance in the asset's price.

When the Desktop hedging article originally appeared, we listed the hedge ratios for nearly a dozen gold stocks, including Gold Corp. (NYSE: GG), Hecla Mining Co. (NYSE:HL) and Harmony Gold Mining (NYSE:HMY).

Since then, a lot of water and volatility has passed under the bridge. These numbers are due to be refreshed to reflect current market conditions.

So here's the deal. If you'd like the current hedge ratios for your gold stocks, drop a line to [e-mail] (This e-mail address is being protected from spambots, you need JavaScript enabled to view it). We'll publish the ratios for the dozen or so most popular issues in an upcoming Desktop column.

Meantime, keep in mind that the purpose of hedging is to manage risk. Hedging a mining stock with a gold note won't eliminate all of the risk associated with the issue. You'll still have skin in the game with your hedge on because the general stock market and the company's idiosyncratic risks remain.

And that's what buying stocks is all about, isn't it?

Disclosure: Author owns none of the above-mentioned stocks.

Comments

[chistletoe:]

seems to me,
its a lot more important to be hedging "cash" right now than gold ...

Nov 09 02:30 PM

[nobby73:]

Shorting gold against a long equity position in a gold miner is not a hedge. If you think gold prices are going to run out of steam, far better to reduce your position, or consider tight stops.

History has shown the theoretical leverage ratio between gold miners share prices and gold is very volatile and very assymmetric, so frankly, this strategy would be highly likely to go horribly wrong.

Nov 09 03:35 PM

[bob dempsey:]

inflation is inevetable buy gold miner stocks and look end of next year no end in sight for gold prices up for 10 years watch for pullbacks 5000 gold in 10 years or less signed NOSTRODAMUS

Nov 10 08:25 PM