Silver: Use Leverage on the Laggard Metal 16 comments
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Introduction
Silver is the poorer sibling of the leader of the precious metals – glamorous Gold. When one talks of the bull market for precious metals, one automatically assumes that one is talking about Gold. Silver is known as the sidekick, and as not truly a precious metal, as there are many industrial uses for it, so silver merely tags along for the ride. I will examine a few possible rides on the precious metal bull market via Silver.
Gold/Silver Floor
The bull market for precious metals is entering the main stage, since the Gold price broke the $1000 USD level again, this fall. The difference this time is that Gold seems to have some staying power and is staying above the one grand marker. There is a great article by a fellow Seeking Alpha contributor that gathers all the under-pinnings of the present Gold bull market. Here is a chart from Stockcharts that explains how the previous resistance for Gold and gold stocks that once broken turns around and becomes strong support.
Figure 1: Fall 2009 Chart of Gold Miners and Gold. Note that the resistance level once broken decisively turns into support. Source: stockcharts.com
If there is any doubt about the $1000 USD level for Gold being a new support floor, you will note that the Gold price also broke the $1100 USD barrier a few days ago on November 9, 2009. Checking back to the timing of the Gold $1000 barrier event, we see that the Silver price at that time was about $16 USD. We assume that the new floor price for Silver is now around $16. This is confirmed towards October’s end, when the Silver price dipped to around $16 but did not penetrate it. Therefore the new floor support price for Silver is $16.
Figure 2: Silver Price Chart Fall 2009. Note the double test of the $16 level which is now the new Floor support price for Silver. Source: stockcharts.com
Gold Silver Ratio
There exists a methodology of comparison between the two siblings, a loose standard called the “Gold Silver Ratio”. The historic ratio over history may be thought of as 15 to 1. That is a millennium long ratio that compares the relative value of the two metals over history. For the recent history of this ratio see the Gold Silver Ratio comparison chart below.
Figure 3: Chart for the last 3 years of the Gold to Silver Ratio. Note the dramatic spike in October 2008 and the gradual descent of the ratio for this year, 2009. Source: stockcharts.com
The present ratio value is about 65, that is the $1100 Gold price compared to the $17 Silver price. This shows that Silver is presently an extreme laggard to the leader Gold. The ratio spiked in October 2008 with the rush to safety in Gold driving the price high. This chart is telling us that the ratio is settling down and should come back to a more natural ratio of the 50 range in the near term. The author submits that there is a tendency in all natural systems for a revision to mean; that is the pendulum swings both ways, what goes up should in time come back to normal. That is unless there are fundamental structural basic changes that cause a new normal such as what we have touched upon for the precious metal bull market.
Silver Target price
With a precious metal up trend unfolding, what should be a reasonable target for Gold’s sibling Silver? This author sees evidence of a precious metal bull market happening, but he cannot predict the outcome or target price. Fortunately, the author in researching for this article came across a Point and Figure chart prediction, reproduced below.
Figure 4: Point & Figure Chart that filters out the noise; note the Target of $26. Source: stockcharts.com
The algorithms driving the above charting of the Silver price data came up with a price objective of $26. This seems reasonable to me.
With the understanding of the precious metal trend, of the underlying floor price, of the tendency of revision to mean and a target price, there appears to be an opportunity here. The indicators are all pointing to a drastic increase in the price of Silver.
Silver is more volatile than Gold and may go beyond our projections, but that is a topic for another day. Note that the historic ratio of Gold to Silver is 15, which calculates to give a price of $73 presently should the ratio linkage be valid.
Leverage with Stocks
With Silver at $17 and the projected increase to $26, that gives us a possible 50% gain by investing in the metal. Now, one may easily leverage that with investing in silver stocks. The short answer to why stocks leverage an underlying commodity price is that the increasing metal price increases the company profits while costs should stay about the same. A more comprehensive explanation of stock leverage over the commodity price by Mr. Greg McCoach is here.
Commonly accepted wisdom is that stocks provide two to three times the gains in the underlying metal price. There is the caveat of risk that should the metal prices slide, the downside for the stock price is also more severe.
The author is partial to silver stocks such as Hecla Mining (HL) and Silver Wheaton (SLW). Hecla is mainly a Silver producer that is continuing a turnaround in their operations. Hecla produces Silver from their Greens Creek mine in Alaska and Lucky Friday mine in Idaho. A bonus is the Gold production from Greens Creek. Here is a Seeking Alpha article describing the trials of Hecla. Silver Wheaton is a royalty company leveraged to the Silver price. Silver Wheaton has only 26 employees and fifteen Silver royalty streams. Here is a link to a Seeking Alpha article that covers SLW.
Leverage with warrants
Another method for leverage is to use warrants that give rights to purchase an equity. There exists bullion funds that are traded similar to equities on the Toronto Stock Exchange TSX such as Silver Bullion Trust, SBT.un and Claymore Silver Bullion Trust, SVR.un. These two examples have warrants that also trade on the Toronto Stock Exchange TSX, SBT.wt and SVR.wt respectively. The particularly intriguing aspects of these warrants are firstly, they are in the money, that is the underlying security is above the exercise price. Secondly, the warrants are particularly good value, trading (as of November 13, 2009) at $1.30 (Cdn) and $.87 (Cdn) respectively. Thirdly, the warrants give the right to purchase the equity at $10 (USD) and $12 (Cdn) respectively, which is a leverage of about 7 to 1. A note about risk with these warrants is that if not exercised by the expiry date they become worthless. The SVR.wt expires on January 15, 2010 and the SBT.wt expires on April 29, 2010.
Conclusion
The precious metal bull has made some moves higher this fall. Silver is presently lagging the glamorous Gold. The fundamentals for the precious metals has changed and has moved the floor price higher reducing the risks of a sharp drop. The Gold to Silver ratio is easing down, which means either the price of Gold drops or the price of Silver has to rise. The price of Silver is estimated to rise to a target price of $26 per ounce. A window of opportunity exists for investors willing to ride the Silver Bull.
Two methods of leveraging upon the Silver price are buying Silver stocks or buying warrants for Silver bullion trusts. These tactics elaborated upon here are not without risk, and are not something that I would bet the house upon; however, I have backed my deliberations with some dollars. The risk here is having Silver fall below the floor price that we have assumed. Then the investor is set up for a major loss; or if the investor still believes the story, then it will be a waiting game for the bull to come to fruition. Just remember that the stock market is a “Great Humbler” and can be irrational for longer than people can remain solvent. So with the disclaimer out of the way, get on board for a ride and Hi-ho Silver and away!
Disclosure: The author is long the Silver Bullion Trust warrants, SBT.wt.
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This article has 16 comments:
seekingalpha.com/user/...
"The units and the warrants trade on the Canadian exchange (but can be bought through etrade for example) and the units also trade as svrzf.pk on the OTC exchange."
Revett Minerals TSX-V: RVM
Yes, of course I own it. They had some issues but seemed to have overcome the worst of them.
(I'M FROM BOSTON)
"They" being the energy and materials hard currency economies and the emerging markets. It will be like the" Viisitors" eating the fat ones first. Not just hungry after their long years in suspended animation but also a little musky and wanting to be able to make some soap as well to clean up with after having a good meal.
If "they" come for the grains instead of the Treasuries ...then what happens?
From Yahoo Finance:
The investment will seek to replicate, net of expenses, twice the performance of silver bullion as measured by the U.S. Dollar fixing price for delivery in London. The fund normally invests assets in financial instruments with economic characteristics twice the return of the index. It may employ leveraged investment techniques in seeking its investment objective.
On Nov 16 06:46 AM Delojozafado wrote:
> No mention of the obvious trade for this scenario. DuH...AGQ. The
> DGP seems to be playing out as well. These are of course funds ONLY
> for day traders we are cautioned. Unless you were buying AGQ below
> $39 and DGP below $20 for a long term exposure and investment. Watch
> out for that DAG as well. With the US pe$o index falling below
> 69 "they" will be coming for the grains as they are next to be monetarized.
>
> "They" being the energy and materials hard currency economies and
> the emerging markets. It will be like the" Viisitors" eating the
> fat ones first. Not just hungry after their long years in suspended
> animation but also a little musky and wanting to be able to make
> some soap as well to clean up with after having a good meal.
> If "they" come for the grains instead of the Treasuries ...then what
> happens?
As chance would have it, I was looking at RVM earlier this week prior to their press release driving the stock up 50%. Here's the PR: finance.yahoo.com/news...
It still deserves some more looking, thanks.
Marco G.
On Nov 15 10:52 PM frdm45 wrote:
> A great little silver producer with enormous ounces in the ground
> currently trading at less than half of book value:
>
> Revett Minerals TSX-V: RVM
>
> Yes, of course I own it. They had some issues but seemed to have
> overcome the worst of them.
On Nov 16 02:51 AM secmaven wrote:
> The future price of silver will be determined by JPMorgan's short
> dealings on the CRIMEX. End of Story.
v 16 02:51 AM secmaven wrote:
> The future price of silver will be determined by JPMorgan's short
> dealings on the CRIMEX. End of Story.
Thanks for the razor advice, but all is not as it seems.
The picture was taken quite a while ago, and I have since lost quite a bit of hair, but I'm still in my prime!
On Nov 16 06:14 PM Chris - Long Beach, CA wrote:
> Marco, you have a little hair on your face. Go Mach 3, baby!
www.silverbulliontrust...
======================...
SILVER BULLION TRUST
4:57 PM 18-Nov-09 US$ CDN$
Net Asset Value per Unit (See Note) $12.22 $12.83
Trading Symbols on TSX SBT.U SBT.UN
Closing Market in Units 18-Nov-09 11.07 12.22
Premium / -Discount -9.4% -4.8%