In this article I will lay out why you should consider purchasing the two companies I highlight here for 2013 and beyond. First, gold, silver and platinum are all down significantly since hitting highs in September and October of 2012. The most popular precious metals ETFs, such as the SPDR Gold Trust (GLD), the iShares Silver Trust (SLV) and the ETFs Physical Platinum Shares (PPLT) are down 6.0%, 10.4% and 3.1 % in the last three months, respectively. The ETFs that track many of the companies that mine and sell these metals such as the Market Vectors Gold Miners ETF (GDX), the Market Vectors Junior Gold Miners ETF (GDXJ) and the Global X Silver Miners (SIL) are down even further in the last three months compared with the metals they produce, losing 13.5%, 17.4% and 9.2%, respectively.
Given recent sell-offs in the precious metals, I am reiterating right here that the gold, silver and platinum ETFs mentioned above are now strong buys after their massive sell-offs. Why am I so bullish on precious metal prices and subsequently on the companies that mine and/or sell them? The reasons are simple. Seemingly endless central bank easy money policies that will debase fiat currencies and a debt crisis in the United States that is eating the value away of the dollar over time. Both are very strong for gold and precious metals. I have outlined the bullish case before, but feel it is prudent to comment here on two recent developments that affect my thesis.
First, on the easy money front the recent Federal Reserve announcement to accelerate its debt-buying program, known as quantitative easing. This will result in the Fed spending another $45 billion a month in balance sheet expansion to replace Operation Twist. This is primarily due to the fact that these recent actions further the central bank easing tailwinds for precious metal prices that I have previously discussed. The market has yet to digest this fully, as the purchasing has yet to fully begin.
One negative action that called into question my thesis was the recently released Federal Open Market Committee (FOMC) minutes, in which it was discussed that the intense bond buying program may need to slow in the future to prevent the Fed from taking on too many assets on its balance sheet. I contend, however, that while important to listen to what the Fed members discuss, it is vastly more important to base investing decisions on what the Fed actually does. Even if the Fed does slow the purchasing down, the amount of easy money that has flooded the market has already created long-term tailwinds for gold, as eventually inflation will hit and investors will seek safe-havens.
Further, the Fed's hands are tied and are essentially playing with an open hand on this one, because their actions are directly related to economic indicators such as unemployment rates, thus, no decrease in bond buying or mortgage asset purchases are likely to slow until these numbers improve. Finally, the Fed simply cannot stop their purchasing or cut off the easy money supply, as they know that such actions will rock the United States economy back into recession.
In terms of the United States debt crisis, the dollar is definitely looking at some long-term pain. The federal government had an opportunity to put the world's largest economy back on a path to fiscal sustainability, even at the risk of short-term pain in the stock market. The fiscal cliff deal that occurred two weeks ago essentially does nothing in solving the debt crisis in the United States. This is terrible for the American dollar, which in turn is generally strong for gold and precious metals, because many investors trade precious metals as competing currencies against the dollar. To hedge against inflation that will eventually occur, many investors and nations seek financial protection in the precious metals, which in turn, will increase demand. This is particularly true for gold as central banks will continue to be purchasers of gold in 2013. Although that doesn't automatically mean gold prices will rise next year, it at least provides a source of buying that should help limit any downside.
Overall, the wind seems to be at the back of precious metals even though they have been in a holding pattern of late after a nice decline that presents a buying opportunity. To capitalize on the future appreciation in precious metals prices, one can invest physically in one of the aforementioned ETFs, or buy stock in an individual company in the sector. While my favorite company in this space is Yamana Gold (AUY) for reasons outlined here, I am also long two streaming companies in the sector as I believe that they have a superb business model.
Just What Does it Mean to be a Streamer?
"Streaming" is a unique and solvent business model in the gold and silver space. I encourage investors in traditional precious metal mining stocks to consider streaming companies as an alternative, as I believe the approach these companies take offers a stronger opportunity for revenue growth with lower long-term overhead and will perform well in 2013 and 2014.
A streaming company generates its profits by providing up front financing for mining companies looking to expand and drill for precious metals. In exchange for the up-front financing of these companies, the streaming company acquires the right to purchase a portion of production generated from the mines at a fixed cost. I would like to highlight two companies involved in silver and gold streaming that I believe will outperform physical gold and silver, as well as the traditional miners in the sector this year. While there are others in the streaming business, my favorite companies are Silver Wheaton (SLW) and Sandstorm Gold (SAND).
Although there are many strong silver companies, SLW has been by far my favorite silver stock. I further believe it could not only outperform silver in the next year, but also the bulk of other silver companies. SLW is a worldwide silver streaming company, and is one of the most efficiently run companies in the mining and metals sector. SLW has contracts with companies around the world to purchase silver production in bulk at prices well below market value. Once SLW acquires the silver at the predetermined upfront investment cost, it then proceeds to sell the silver at higher prices. The company currently has 15 long-term silver purchase agreements and two long-term precious metal purchase agreements whereby it acquires silver and gold production from companies located in Greece, Sweden, Peru, Chile, Argentina, Portugal, Mexico and the United States.
SLW's Business Model
Here is the beauty of a streaming business model. According to the company, "the predetermined price that SLW pays for future silver production is approximately $4.00 per ounce, with a small inflationary adjustment, ensuring that costs are fixed." SLW represents an excellent investment to gain exposure to silver as SLW offers significant leverage to the price of silver with minimal downside risks. No additional capital expenditures or exploration costs are required by SLW, besides the initial payments the company makes to silver miners to secure the rights to purchase low cost silver. Further, SLW benefits from the production and exploration growth of its operating partners. It does not face the rising labor cost issues that actual miners face. So long as the mines are producing, SLW will have a consistent stream of silver, and in turn, a stream of revenue. The higher the price of silver goes, the better the top and bottom lines will be. This efficient business model creates long-term shareholder value.
SLW's Recent Performance
The recently reported third-quarter earnings were below analysts' estimates, primarily due to irregularities between ounces sold and timing of shipments. However, management stated that cash flow and dividends both will increase through the last three months of this year as sales begin to catch up with production. Production was up in the third quarter, rising to 7.69 million ounces of silver, however sales rose less than 1% to just 5.14 million ounces. Sales dropped by 13% to $161.3 million. Net income dropped by 11% from last year's $135 million to $119.7 million. Although the quarter was weaker than expected, the company looks strong going forward and is leveraged to silver prices. So long as silver holds its value-- or the more likely case, appreciates over time-- the stock should perform well. SLW will report its 4th quarter earnings on or around March 18th, 2013.
SLW Stock Fundamentals
SLW currently trades at $36.26 and has a 52-week trading range of $22.94 to $41.30. On average, about 3.7 million shares exchange hands daily. The company trades at a 23 P/E multiple but only a 0.66 PEG ratio and currently yields 0.78% (the company reduced its quarterly dividend to 7 cents temporarily). SLW's earnings per share are estimated to grow at a rate of 36% in the next five years. The company also has a strong balance sheet with a debt-to-equity ratio that is decreasing. The share price has been depressed as of late due to the weakness in silver in the last month or so.
One of the premier gold streaming companies is SAND. Interestingly, SAND has CEO Nolan Watson at the helm. Nolan Watson served as the former CFO of SLW and thus he is familiar with the business model of streaming. Mr. Watson has demonstrated success. During his time with SLW, the stock moved from about $8 a share to over $20. I believe he will deliver for shareholders of SAND as well.
SAND's Operations; Focused On Growth
As with SLW and contracts with silver mining companies, SAND provides upfront financing for gold mining companies that are looking for capital for exploration and development. In return for upfront financing, SAND receives a gold streaming agreement giving SAND the right to purchase a percentage of the gold produced by the company. More specifically, SAND has the right to a percentage of a mine's gold production for the life of the mine. SAND currently has a growing portfolio of twelve gold streams, nine of which are now producing gold and three royalties. SAND plans to grow revenues and its bottom line by diversifying its cost efficient production profile through the acquisition of additional gold streams. SAND is a growth-focused company that is seeking to acquire more of these gold streams from companies that have advanced stage development projects or operating mines.
SAND's Recent Performance; Record Revenues Continue
SAND's second quarter was strong as it reported record sales and revenue. In its Q2, SAND sold 9,259 ounces of gold and had cash flow of over $11.3 million. The standout statistic of the quarter in my opinion was that SAND paid an average of $298 per ounce of gold, leading to cash operating margins of $1317 an ounce. SAND also just reported third-quarter earnings. In Q3, SAND had record revenue of $15.1 million on gold sales of 9,066 ounces. Cash flow was still strong at $10.6 million. Margins decreased slightly on gold sales as the cost per ounce was $408, resulting in cash operating margins of $1258 per ounce. Margins were still very strong in my estimation. Finally, based on existing gold stream agreements, the forecast for attributable production in 2012 is 31,000 to 34,000 ounces of gold, increasing to over 60,000 ounces of gold equivalent per annum by 2015. SAND will report its 4th quarter earnings on or around January 22, 2013.
Shares of SAND currently trade at $12.45. This is up significantly from when I first highlighted the company. The stock has pulled back nearly 20% from the highs of the year and I think it is an attractive entry point for the long-term investor seeking exposure to the precious metals sector. On average, approximately 680,000 shares exchange hands daily. The stock has a 52 week range of $5.85 to $15.43. Once the price of gold begins to ascend back toward the $2,000 level, I would expect SAND stock to rise significantly as higher gold prices directly impact the bottom line of the company given the contract arrangements it has with mining companies.
I believe global central bank stimulus will undoubtedly debase currencies worldwide, and thus, the tailwinds are in place to sustain a long-term bull market in precious metals. We have had a major pullback from the recent highs a few months ago and have been trading sideways in the last week or so, thus presenting an entry point opportunity for the long-term investor. Streaming is one of my favorite business models as the risk is much lower compared with traditional mining companies. I believe both of these streaming companies are strong buys after their recent pullbacks and may outperform their peers that engage in traditional mining activities. Therefore, I am long SLW and SAND for 2013 and think it is likely these stocks could outperform those of the traditional mining companies.