VARIABLES EXPLAINING THE PRICE OF GOLD MINING STOCKS

The purpose of this study is to examine the relationship between an index of gold mining stock prices and a variety of explanatory variables. A sample of 656 cases of week ending values of the gold mining stock index (GOX) was used as a proxy for the industry. Multiple linear regression was used to study the variables. Five independent variables were found with an adjusted R-squared of 0.557. The results of this study corroborate previous studies and offer new insights into gold mining stock determinants. The topic is very timely with gold prices hitting historic highs recently. JEL classifications: C32, G10 INTRODUCTION Investors have shown a particular interest in the determinants of gold stock values because of the general belief that the stocks can be a good substitute for direct purchases of the commodity itself. Gold stocks are seen as a method of avoiding the large transactions cost associated with purchasing gold and as a means of hedging when speculating in the gold market. The commodity, gold, can be subject to volatile prices changes, the impact of which is often thought to be lessened by purchase of gold stocks rather than gold. Additional interest comes from those who view gold stocks as a way to examine the risk management in the context of a relatively uncomplicated firm structure; i.e., gold firms are primarily producing a single product that is traded in sometimes volatile markets for which there is a great deal of public information. The purpose of this study is to examine the relationship between an index of gold mining stocks and various macroeconomic variables including gold prices. Given recent increases in the price of gold to record highs, the topic is very timely and should be of interest to the investment and business community. Further, the topic should have practical implications for both investors and managers of gold mining companies. In this paper we will review previous studies of gold stock values with special attention given to both market and gold factors. We will then specify a model to explain variation in gold price stocks and test it empirically with weekending data for the period January, 1998 to July, 2010. The findings of the Southwestern Economic Review 82 empirical analysis will be described and discussed. Finally, conclusions resulting from the analysis will be discussed. LITERATURE REVIEW A number of variables have been identified that may influence the value of gold stocks, but two are most common in previous studies. Those are 1) measures of the commodity prices (gold factor) and 2) measures of the larger market movements (market factor). These have been used frequently to explain price movements of gold stocks. The latter is included to control for gold stock price changes that result from general movements in the stock market. Other variables include measures of volatility (Twite, 2002), foreign exchange rates (Faff and Chan, 1998), interest rate returns (Faff and Chan, 1998), quantity of gold extracted in a given time period (Blose and Shieh, 1995), cash costs per time period (Blose and Shieh, 1995), proven reserves (Blose and Shieh, 1995) and a volatility measure of the responsiveness of total value of a firm’s risk management portfolio to changes in gold price (Tufano, 1996 and 1998). Previous studies have obtained gold stock price data in several forms. Blose and Shieh (1995), Faff and Chan (1998), Tufano (1998), and Twite (2002) looked at individual gold mining companies and Blose (1996) focused on gold mining mutual fund prices. Others used gold price indices. Twite (2002) employed the Australian Stock Exchange (ASX) gold accumulation index while Gilmore, et. al (2009) measured gold stock prices using the Chicago Board of Options Exchange (CBOE) Gold Index (GOX) and AMEX Gold BUGS Index. Gold prices have come primarily from the New York Commodity Exchange (COMEX) data published by Handy and Harman (Blose and Shieh, 1995; Blose, 1996; Tufano, 1998; Smith, 2001) and the London daily fixings (Smith, 2001; Gilmore, et. al 2009). Faff and Chan’s (1998) study of the Australian market used the Australian Bureau of Statistics RBA database. Measures of broader market movements have included CRSP composite index (Blose and Shieh, 1995; Blose, 1996; Tufano, 1998; Smith, 2001); S & P 500 (Smith, 2001; Twite, 2002; Glimore, et. al 2009); and ASX All Ordinaries Index (Twite, 2002). Most studies have found a relationship between gold prices and gold stock prices. Blose and Shieh (1995) studied 23 gold mining companies and found that the value of their stocks was influenced by the return on gold prices, cash costs, levels of gold reserves and the proportion of assets after accounting for market factors. Blose (1996) was able to estimate gold price elasticity with respect to gold mutual fund prices but found that over half of the price movements in 27 mutual funds studied are explained by factors other than gold prices. Faff and Chan (1998) found that only returns on gold and market factors had any explanatory effect on gold stock indices in Australia. They examined but found no evidence that foreign exchange rates and interest rates had an impact. Gilmore, et. al (2009),using cointegration analysis, found that the GOX index, gold prices, and large-cap S&P 500 had the same long-run stochastic