In another look at the silver market, Will Bancroft takes a look at Eric Sprott's call to silver miners in November 2011. Have the suppliers of silver bullion to the market taken heed? Are the miners reclaiming the silver price? Read on to see how Mr. Sprott's call has been received, whether the miners are rethinking their precious product.
Silver market observers will have likely noticed Eric Sprott's open letter calling silver miners to arms last November. Mr. Sprott urged the miners to think about bit more deeply about their precious product, given his concerns about an unhealthy disconnect between the physical and paper silver markets. Silver miners and silver investors were potentially suffering the results of this disconnect and a resulting lower silver price.
Mr. Sprott has concerns about manipulation in the paper silver market where over a billion ounces are traded each day. Sprott Asset Management have been pointing out for some time that this is perverse, when there are barely half a million ounces of physical silver available each day for investment. The far larger paper market, which bears no relation to the physical market, is where price discovery occurs in setting the silver price.
Paper silver versus silver bullion
"I think we have a bit of a voice in the silver market, and the reason for the letter was just the simple analysis that the paper traders were determining the price…and why should you physical silver producers let that happen? …That's really why I went there. I thought that if we could just tip a few of these silver producers around to thinking about what's going on in the market, and who's determining the price, maybe we'll let the physical markets determine the price instead."
Eric Sprott had argued that silver miners should consider the benefits of saving in silver bullion.
"And that was the primary thing - would you guys please think about what's happening in your silver market! Plus the fact that it got bombed last year, and are you just going to sit back and lose $25 an ounce that you might otherwise be making, or are you ready to take a stand here? The other very easy argument for me, is when you have your money in a bank, you get no return… I happen to be of the view that having money in the bank is a dangerous thing! And you know they keep bailing out the banks all the time such as the recent G6 announcement that we'll give unlimited loans to banks: well, they had to give unlimited loans to banks, because there were some banks that were on the brink! That tells you that it's risky having money in a bank! So not only do you have to accept the risk, you get a negative return! Why don't you believe in your own product that also has been a currency and also will become a currency?"
Miners saving in silver bullion
To help strengthen the hand of the physical silver market, Mr. Sprott had looked to the source of bullion supply. He asked the mining companies to consider holding 25% of their 2011 cash reserves in physical silver. To assess what sort of impact this might have on the physical market, Mr. Sprott looked at the largest pure play silver miners.
|COMPANY||TICKER||CASH HOLDINGS||ESTIMATED 2012 FCF|
|(US$ millions)||(US$ millions)|
|Pan American Silver||PAAS.NASDQ||$299||$342|
|Coeur D'Alene Mining||CDE.NYSE||$208||$459|
Source: BMO Capital Markets, Ambrian Partners,
BofA Merrill Lynch Global Research, Stonecap Securities Inc.,
Global Hunter Securities LLC, Canaccord Genuity
Mr. Sprott makes some calculations, using 2010 industrial, photography, jewellery and silverware demand figures of 777.4 million ounces from the Silver Institute, and finds a probable silver surplus available for investment of 300 million ounces. This supply of 300 million ounces was worth around $9bn when the letter was sent to miners and broadcast around the web. If they were to hold 25% of cash reserves in silver the miners listed above could account for nearly 10% of the roughly US$9bn of investible silver available for 2011.
"If this practice we're applied to the expected 2012 free cash flow of the same companies, the proportion of investable silver taken out of circulation could potentially be enormous."
The reaction of silver producers?
A few months have passed and we were interested to see how silver miners have reacted. Some mining CEOs are devout students of their product (think Dr Mark Bristow of Rangold Resources), and well aware of the role and history of gold and silver as sound money. However, most mining executives are far better versed in ore grades, core samples and extraction rates, than in monetary economics.
There has in fact been early stage signs of some well-known silver miners thinking differently about their product and how they release it to the silver market. According to a recent interview with SilverDoctors, some of these miners have also been participating in the new placement for Sprott's Physical Silver Trust.
UC Resources has apparently bought a million dollars of the Sprott Physical Silver Trust, but more impressively Mr. Sprott tells us that "First Majestic did buy $10 million of our issue". The CEO of First Majestic Silver, Keith Neumeyer, is a big silver bull who even sells coins via their website. Mr Neumeyer is one of the most articulte CEOs when in comes to knowledge of markets and monetary affairs. First Majestic is no small fry in the pantheon of silver miners, with a market cap of over two billion Canadian dollars (your author is also quietly pleased about this, being a holder of their stock). When checked against the table of silver miners above, First Majestic's silver holding does not look to amount to 25% of cash reserves. Nonetheless it is a start from a top tier miner.
Other silver miners thinking differently about their product, and with a greater focus on fair value for silver, have included Endeavor Silver (another relatively significant silver miner with market cap of 920 million Canadian dollars). Mr. Sprott points out that by later 2011 Endeavor Silver had produced 1.2 million ounces over silver, but only sold 400,000 ounces onto the market. The management thought that their product was not appropriately priced at the end of the quarter, when silver was trading at close to $27/ounce, and waited before selling the remainder of their inventory. Given that the silver price is now around $33, and Endeavor has achieved a price 30% more than they would have otherwise realised. "Kudos to them" calls Mr. Sprott, and "I'm glad to see people taking a stand that the paper price shouldn't determine where you're selling things!"
Whilst one swallow does not make a summer, and these 3 miners do not represent a wholesale change in operating or attitude across the silver mining industry, this progress is welcome news to those holding silver investments. We need to wait and see if this change is the start of a trend. Mr. Sprott is clearly hell bent on helping the physical silver market reassert itself over its bigger paper relation. We salute him.
"One of my aims in life is to do a silver issue (issue new shares in his silver trust), and find out that I cannot buy the last bar. That hasn't happened yet. But if people keep up their interest as they have so far, I've no doubt that it could happen."
Touching on the fundamentals for silver investment
Aside from his update on the miners, it was interesting to hear Eric Sprott check in with an update on how he sees the fundamentals of supply and demand in the physical silver market.
Mr. Sprott continues to see investors buying the same cash values of silver bullion as gold. In real terms this means that 50 times the volume of silver bullion and coin is being bought than gold (at today's gold silver ratio of around 52). Mr. Sprott continues to see this phenomenon exhibit itself within his asset management group, affiliated companies, bullion dealers he speaks with, and in coin sales at the US and Canadian Mints. The buying of silver at this rate apparently cannot continue to occur at these silver prices, and this gold silver ratio, because there is simply not 50 times as much silver as gold available for investment.
When you look at what's available to buy - you know we produce 80 million ounces of gold a year, and maybe 70 million of that is available for investment, and we produce 900 million ounces of silver, and theoretically let's say 200 million ounces are available for investment, well that means you can only buy 3 times more silver than gold for investment purposes.
These fundamentals in the physical silver market have been in evidence for a while now; we mentioned them last year. We wait to see if a trend of more considered selling and management of bullion and cash reserves by the miners builds, and if a purer process of price discovery begins to occur in the silver price this year.
Additional disclosure: I am an executive of a precious metals investment service. I am long gold, silver, and the miners.