Valuation of a hypothetical mining project under commodity price and exchange rate uncertainties by using numerical methods

The most important goal presented here is combining exchange rate uncertainty together with commodity price (spot price) uncertainty. In fact, this paper tries to address this question: how can we model the exchange rate volatility and the correlation coefficient between returns of commodity price and exchange rate in assessing a gold mining project. Considering the disadvantages of the Discounted Cash Flow (DCF) method which does not use uncertainties, the approach presented here makes use of real options valuation for a gold mine project valuation. This paper uses an explicit method (FDM) for these calculations. The results indicate increasing volatilities for either or both commodity price or exchange rate results in decreasing the maximum project value. Also, the correlation coefficients between returns of commodity price and exchange rate in different years are negative and statistically significant. The final result indicates that with an increase in the correlation coefficient, the volatility of gold price in terms of Canadian dollar decreases and therefore the maximum project value increases too. In summary, the exchange rate volatility and the correlation coefficient between returns of commodity price and exchange rate have a significant impact on mining project values.