After Andrey Dashkov’s article last week on increased hedging in the gold industry, I promised to comment more on the theoretical background of hedging. Unfortunately, the market had other plans for my writing topics until now.
Let’s start with asking, “Why do companies hedge?” They do so to maintain predictable cash flows and to reduce risk. If a gold producer locks in gold prices at $1,700 per oz., it can guarantee a certain amount of revenue. Sure, maybe the price could go higher, but the downside is smaller as well. In a way, the company caps both its profit and loss.
Guaranteed cash flows sound nice, but who do they really serve? To answer this question, we must first ask an even more fundamental one: What is the purpose of any publicly traded firm? In the purist form of the definition, it is to serve shareholders. So here’s the catch: In many cases, shareholders don’t need or want management to hedge production.
There are several theoretical reasons for this. First of all, as a shareholder, I can diversify away the risks in my portfolio. If a gold producer is only one stock out of 50 I own, I won’t lose much sleep at night over the price of gold. The management will, but I won’t.
Second, hedging could remove my reason for investing in the company. For example, consider that Casey Research purchases a gold producer’s stock. We want the company because the prospects of future production look good and we’re bullish on gold. However, if the company has hedged all of its production, the upside from higher gold prices is limited. By hedging, management removes a primary reason for investment in the firm. Management is safer, but my gold exposure is lower. The interests are in conflict.
There’s a third problem – which also happens to be a solution. Investors can hedge without the company. That’s right. If I’m afraid gold prices will drop and negatively affect my gold mining investments, I can hedge with gold myself. The company doesn’t need to do it for me. As an investor, I can choose my personal exposure to commodity prices. Everyone’s comfort with risk is different, and few investors share the exact same risk tolerance with a company’s management.
These are all theoretical reasons why companies shouldn’t hedge. However, some hedging is inherently necessary to meet expenses. Imagine a world where whole companies could collapse overnight with swings in commodity prices. That would not be a desirable outcome. It’s one thing to lock in future profits; it’s another thing to throw tomorrow’s bills and payrolls to the gods.
With that said, don’t think this a worthless lesson. The most important thing to take away is that ultimately the investor controls the hedges. Consider that most Casey subscribers hold both gold and gold mining companies. Since we’re bullish on gold, we’re taking on more exposure than simply investing in mining stocks. By purchasing physical gold, CEFs, and/or ETFs, investors can choose their own level of exposure.
In fact, one can reverse the hedging strategy of any company. Suppose that gold company XYZ has some incredible properties, but it has hedged the price at $1,700 for most of its production. If one is more bullish on gold than $1,700, one doesn’t need to sell this good company. Instead, one can offset their hedging decision by purchasing more gold. Through this method, the investor profits both from the company’s production and the price of gold. It may be a little more burdensome than simply buying a single stock, but one’s exposure to any tradable commodity is in one’s own hands.
For the rest of the issue, Doug Hornig will discuss the growing intrusions of the U.S. police state. Also, make sure to check out Bud Conrad’s interview on Financial Sense in the links section.
By Doug Hornig
The noose around Washington, D.C.’s neck continues to tighten, with no clear way to remove it. Behind the scenes, there is undoubtedly a rising sense of panic. That’s bad. The last thing you want is panicky people operating the far-reaching power levers of the state.
But if push does come to shove, history teaches us, the government will not hesitate to clamp down on its subjects by whatever means necessary to preserve itself. And the best way to mute resistance is to prepare citizens ahead of time for escalating levels of police control. An enhanced law enforcement presence must be accepted as the new normal. But rest assured, it’s “for our own good.”
That disclaimer has been used to hoodwink decent folk forever. But the truth is, what’s really up is the application of the time-tested political axiom that the more fearful people are, the easier they are to control. We’ve seen this principle at work for years. Politicians continually pass more intrusive laws; and police take increasing liberties with our rights, content that the courts will back them up… which they have done, as spineless judges hand them larger and larger cartes blanche to act however they please. The first ten amendments to the Constitution have been largely gutted. The things the Founders cared most passionately about have been tossed into the dustbin.
We’re told: that our homes are no longer safe from no-knock entries, and warrants be damned (precisely the abuse that most riled the revolutionary colonists); that we should rat out our neighbors at the first sign that something is “amiss,” just as in any communist state you care to mention; and that it should be regarded as okay that warrants of all kinds are commonly served by gangs of helmeted thugs, covered with body armor and toting a dizzying array of lethal weapons.
Readers of a certain age will remember when the police were called peace officers, as their job was primarily to maintain the peace. Who’s heard that quaint term lately? No, now they are law enforcement officers, and they are at war with a widening swath of the citizenry. And the targets of overwhelming force are not just murderers and rapists and armed robbers. SWAT teams are routinely dispatched to deal with bickering spouses, zoned-out pot smokers, parking ticket violators, and those delinquent in loan payments.
Make no mistake about it: Authorities around the country have gotten the message from Washington that a complaisant populace is required. And they’re dutifully applying the heat. It may seem odd that they’re going after ever less-violent people, but it makes perfect sense. It’s in the government’s interest to suggest that all of us are potential suspects.
Take, for instance, the case of Rawesome Foods in California, a private buying club dedicated to bringing the most wholesome, natural food products to its members. Does that sound like a criminal conspiracy? It did to local and federal officials, who staged a joint SWAT-style raid on the club last week. Without a warrant, officers entered the storefront, seized cash, destroyed inventory, and jailed the club’s founder.
But if those in power are really serious about creating a docile population, there is absolutely no better way to go about it than criminalizing children. Yes, children.
No, I’m not talking about SWAT raids here. But in a way, this is even more insidious, because the effort is directed at teaching kids at an early age that Big Brother is always watching and that you’d better be sure you obey the letter of every law (as if anyone could possibly know what they all are) or you’re in for trouble with the Man.
This has been – and I swear I am not making this up – the summer of the lemonade-stand bust. Yep, children’s lemonade stands have been closed down in states all over the country, including California, Oregon, and Texas – and even, astonishingly, in such bedrock, sensible-values American heartland states as Wisconsin and Iowa.
The latest of these important police actions came in small-town Georgia, where the local cops advised the kids in question that they had to cease and desist from selling their lemonade until they forked over $50 a day for a business license. Watch this news report only if you have a strong stomach and your outrage button is not easily pushed.
That video is instructive in oh so many wonderful ways.
First, take a good look at the head cop as she explains their actions. “The law is the law” is about as close as you can get to “I was only following orders.” Squint your eyes a little. She’d look perfect decked out in SS lightning bolts, wouldn’t she?
Next, consider the little girl who says, “… but we had to listen to the cops.” She’s learned her lesson.
Then there’s mom. We’re sure that if she were one of our readers that stand would’ve been up and running the next day, and every day until the police were forced to take those kids to court over this. But not here. This mom is backing away from the issue, saying, “I’m trying to teach my kids good, and I don’t think it’ll teach ‘em good if I keep on an’ on with this.” Right, the lesson wasn’t only for the children.
Finally, in addition to instilling fear of authority in our most impressionable citizens, there’s an added kicker to this incident. What better way to kill the entrepreneurial spirit in its cradle and set us up for the day when we all work for the state?
Question: What’s the point when we finally announce that we’re not going to take it any more? If that point isn’t when they go after our kids, then there isn’t one.
World Economies Slowing, Leading to Unrest (Financial Sense)
Our own Bud Conrad is interviewed by Jim Puplava over at Financial Sense on topics ranging from the recent market volatility to the Fed’s statement on near-zero rates. As many of our readers know, Bud is our chief economist. We don’t get to hear from him in the Daily Dispatch because he’s always so busy preparing charts and analyzing data for The Casey Report. Make sure to catch his interview.
Iceland Raises Rates for First Time Since 2008 (Bloomberg)
This interest rate hike is a bit of a surprise move, but maybe in some ways Iceland’s central bank is taking advantage of the recent selloff. With everyone else keeping rates low, this hike could be viewed in a very positive light for limited additional risk. So, while it seems like a dangerous move, the risk-to-reward ratio might be quite good. If that’s the case, I have a feeling that Iceland won’t make any additional moves soon; this is probably a one-shot hike attempting to take advantage of the situation.
Cost of Livin’ (YouTube)
A few weeks ago, I was discussing the pitiful state of the music world with a good friend of mine. Essentially, popular music has completely disconnected from the real world. This has always been the case, but now it’s worse than ever. Turn on radio and you’ll hear happy, upbeat songs. Watch a music video and see mid-20s songwriters singing from enormous loft apartments. That’s the sort of image coming from the industry these days. Nothing touches on the reality of massive unemployment, a darkening future, and the general frustration out there.
However, I’ve finally found a new song that captures some of those feelings. As David Galland has shared songs in the past, I hope that you’ll enjoy Cost of Livin’ by Ronnie Dunn. It isn’t pure country gold, but compared to a lot of stuff out today, it’s pretty good. If you know of any new songs with a similar theme, please send them over.
That’s it for today. Thank you for reading and subscribing to Casey Daily Dispatch.
Casey Daily Dispatch Editor
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