Do Financial Analysts Value Corporate Hedging Strategies?: A Case of Precious Metal Mining Firms

Abstract:     
The recent bull market of gold and other precious metal industry point to obvious questions: Are corporations' hedging strategies still valuable for their shareholders and how is this information reflected in the financial analysts' forecast? The impact of using derivatives on a firm's equity return is an ongoing issue in both corporate and asset management. Although theoretical literature describes why firms should or should not hedge, we do not know much about the empirical validity of these predictions. This paper provides descriptive evidence on the risk management activities of two gold mining firms and investigates whether a firm's use of derivatives materially reduces the overall expected equity-return risk as well as the forecasted earnings risk. Results of this study confirm that derivatives can be used to reduce a firm's risk exposure. Specifically, the empirical results show a firm that employs intensive hedging activities through derivatives tends to experience both statistically and economically significant risk reductions on its future cash-flows as well as equity returns. In addition, the results indicate that financial analysts incorporate the information of a firm's hedging strategy and that it is reflected in their earnings forecasts.

Working Paper Series