Silver Wheaton (NYSE:SLW) is a silver streaming company that operates around the globe to acquire future rights to silver production. If this is lacking in a certain degree of clarity, the company is also referred to as a silver royalty holding company.
What each of these seemingly imprecise monikers means is that Silver Wheaton negotiates to purchase silver before it is mined. The company pays the parties with which it does business an upfront fee plus a set amount upon the actual delivery of the silver. Given that the delivery compensation is roughly $4 per ounce, and silver is currently trading around $28 per ounce, the profits involved are quite handsome. Given that silver has spiked as high as $50 in the past year, the potential for this company is considerable. Furthermore, given the fact that Silver Wheaton has the largest reserve of silver among any silver company in existence, finding appealing buying opportunities is the goal, not deciding whether the stock should be added to one's portfolio.
The Silver Market
There are some important features of the silver market that should be understood before one chooses to invest, either directly in silver or in a silver company. On the plus side, in addition to being sought after as a store of wealth as a precious metal, silver is probably the most useful industrial metal on the planet. Silver is used in electronics and photography, in the medical field, and in optics. The likelihood is that without silver, there would be nobody reading this because the devices involved all contain silver. Given this wide sphere of application, it is hard to imagine a dramatic decline in demand in the foreseeable future. Technology runs on silver and until that changes, silver should prove to be a safe place to invest.
On the downside, because the silver market is far smaller than the gold market, the price of silver tends to be more volatile. To put this in perspective, depending on the specific trading price one uses, the gold market is over one hundred times larger than the silver market -- there is roughly $32 billion of available silver, while there is roughly $3.4 trillion of gold. This is largely a result of the price differential, but the impact of volatility is real. The current price ratio is around 50 to 1, although historically it has found equilibrium around 15 to 1; should this historical ratio return, the return one could expect on silver is immense. The effect of the increased volatility is that when a global event impacts the price of silver, the moves tend to be sharp.
For anyone wishing to avoid the nail-biting reality of this often jumpy market, it well advised to choose the stocks of silver companies rather than a direct investment in the commodity. The reaction of these stocks tends to be directionally similar to the price of silver, but less choppy. For most investors, less volatility is worth forgoing some of the return potential. The question then becomes choosing the right company.
How Silver Wheaton Behaves
Given its large reserves and aggressive pricing structure, Silver Wheaton is extremely attractive as a proxy for a silver investment. The large levels of the company's reserve mean that the stock's price is highly leveraged to the price of silver on any upward moves. The stock is protected, however, on the downside because of the low cost structure that is negotiated into the company's royalty contracts. Silver Wheaton has a cost of silver that is roughly $4 per ounce. This means it is far better insulated against adverse moves in the price of silver than most of its competitors. This dual exposure and protection make the stock particularly attractive as an investment in silver.
Silver Wheaton's Peers
Even given the superior position of the company within the market, it is still advisable to compare some of its major financial metrics to its primary competitors, including Coeur d'Alene Mines (NYSE:CDE), Hecla Mining (NYSE:HL), Pan American Silver (NASDAQ:PAAS), BHP Billiton (NYSE:BHP) and Compania de Minas Buenaventura SA (NYSE:BVN). On a valuation basis, the company has a trailing 12-month P/E ratio of 17.1 relative to a P/E of 19.5 for Coeur d'Alene, 10.3 for Hecla, 5 for Pan American Silver, 8.1 for BHP, and 11.5 for Buenaventura.
On this basis, the company appears a bit expensive. However, when growth is added, the company becomes far more appealing against all competitors, except Coeur d'Alene. The company has a PEG ratio of 0.59 relative to 0.21 for Coeur d'Alene, 2.9 for Hecla, 1.1 for Pan American Silver, 2.3 for BHP, and 1.4 for Buenaventura. Remember that a PEG reading under 1.0 is generally considered attractive because that means that one is receiving P/E valuation at a discount relative to the company's growth expectation.
The final metric to consider is the efficiency with which the company is run, as measured by the operating margin. Silver Wheaton has an operating margin of 76.9% relative to 21.6% for Coeur d'Alene, 47% for Hecla, 43.8% for Pan American Silver, 44.9% for BHP, and 42.2% for Buenaventura. Silver Wheaton is able to achieve this almost unbelievable figure because of the structure that the company employs. Because it is engaged in royalty structures rather than running its own mines, the efficiency achieved is unmatched. When this is coupled with every other attractive factor about the company, it is a great addition to any portfolio.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.