Comparing Volatility of Gold to Its Price

It has been a turbulent year for both gold and gold stocks. After breaking the $1000 per ounce mark in mid-March and rising as high as $978 about four months later, the spot price of gold has fallen as low as $712. With the market volatility expected to continue for some time, investors continue to seek ways to play the discrepancy between bullion and related equities.

Analysts at RBC Capital Markets have looked at the beta, or volatility of gold stocks compared to the gold price, for Tier I and Tier II North American gold producers. For example, if a stock’s beta is 2.0 and the gold price moves 10%, the share price should theoretically move 20% in the same direction.

Stephen D. Walker and Michael Curran looked at two periods: the four-and-a-half months after gold’s July 15 interim high and the 12-month period that began on Nov. 30, 2007. They found that Kinross Gold Corp., Goldcorp Inc. (GG) and Barrick Gold Corp. (ABX) have similar betas for both periods – ranging from 1.95 to 2.11. Newmont Mining Corp.’s (NEM) betas were substantially lower, however, the analysts expected the opposite since it has higher-than-average cash costs.

“The explanation of a lower beta may be related to fewer surprises for investors, as management has delivered on its 2008 production and cost guidance,” they told clients, adding that Newmont has had no major M&A news or negative geopolitical developments in the past year.

The report also showed that Tier II producers tend to have a higher beta than their larger peers, which can be attributed to their greater risk and cost profiles. Eldorado Gold Corp. (EGO) stands out as a Tier II name with a high beta during both time periods.

So how can investors play the beta game? If they’re bullish on gold, RBC’s analysts suggest a focus on above-average beta-to-bullion names that have a high quality asset mix, such as the ones already mentioned. Another Tier II miner that fits this profile is Red Back Mining Inc. (RBIFF.PK).

Bullion bears should reduce their exposure to high beta names with low quality assets, as they should decline more quickly and severely if the gold price declines, the analysts said, highlighting Franco-Nevada Corp. [FNV.TO], Newmont and IAMGOLD Corp. (IAG) as stocks with a more defensive beta.

RBC expects a year-end rally for gold into 2009 and the Chinese New Year that begins on Jan. 26.

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