Silver has risen quite a bit as of late, and this leads me to wonder if we have seen a turnaround in the metal. As I look at iShares Silver Trust (SLV), I have been able to put together recent events that I think have led to the increase in value, but when I look at the silver industry, I am not yet convinced that we should think the metal has suddenly turned bullish for us.
Multiple Reasons for Recent Rise in Silver
There were combinations of events that helped lead to the huge jump that silver took recently. Not only did the dollar reach a four week low, but Spain had a successful bond auction for a nation on the brink or fiscal default. The favorable bond sales meant the country could borrow at a rate significantly lower than interest rates. Then the Feds also added to the mix news that encouraged silver's rise when it released the minutes from the latest Federal Open Market Committee meeting, held from July 31 to August 1. The part that said many members judged that a stimulus will likely be warranted quickly unless there is a substantial strengthening of the economy. This information is considered one of the strongest indicators yet that QE3 likely lies ahead. Investors liked this.
Silver Mine Problems
Silver may have risen in price recently, but when we take a look at silver miners and the challenges they face this year, we get a better perspective on where we really are right now. The low prices have had a negative impact upon their bottom line as does factory-wide price pressures driving up silver production costs. Here are just a couple examples of what some miners have been facing.
Pan American Silver (PAAS) has a great quarter, extracting 14% more silver than a year before. In fact the company reported its second-highest quarterly production in the company's history. But revenues declined by more than $31 million despite the growth in production. Earnings also took a large hit from $75.4 million to $17.1 million. The hit was significant and directly related to the much lower silver and base metal prices this year compared to last. Silver fell 23% but Pan American also experienced declines in zinc, lead, and copper. Hecla Mining (HL) is another example of a company that brought in silver at $39.08 an ounce in 2011 and this year it has been $28.69 per ounce. From an income of $53.7 million last year, it recorded a $2.5 million loss a year later. And finally, First Majestic Silver's (AG) saw an increase in production of silver to about 8% this quarter, but saw revenues decline 19%, just like Pan American.
Jon Nadler, senior metals analyst at Kitco Metal, put into perspective how the metal is struggling with the economy since it is very dependent upon industrial use, unlike gold.
"The principal problem for silver at this time is that 53% of its demand comes from industrial users and those are the very sources which analysts deem will not step up to the silver plate and use it in the amounts that might have been hoped for by the bulls previously."
Hedge Funds speculators are not sold on the metal right now either. Speculative bets for higher prices for silver have gone down 72% since February. Funds are expecting slower growth to further curb demand for the metal. So even though we have seen a recent sizable rise in the metal, I do not think it is wise to bank on it to continue to go up right now. I just do not see any long term indications that the economy is ready to support a continued rise in silver.
Technically Speaking
Through the summer, it looks like SLV stayed a majority of the time within a trading channel between 26 and 28. Low volume and disinterested investors are the culprits. The stock did not see much action until just recently with a series of news items that shot the stock way up, leaving 2 gaps. The recent climb has pushed so far through the Bollinger Bands that I am expecting a pullback, and there is a good chance one of both of these gaps may see a fill.
(click to enlarge)
The Options Play
The Silver ETF iShares Silver Trust is presently trading at $29.74. I believe the rise in price happened so fast it has to pull back and possibly fill one of the gaps. Because of this I am taking a bearish income play on the stock using a bear put spread.
- Buy a November 2012 put with a strike of '29.50' (priced at $1.53)
- Sell a November 2012 put with a strike of '29.00' (priced at $1.28)
- Net Debit to Start: $0.25
- Maximum Profit: $0.25
- Maximum Risk: net debit
- Maximum Length of Trade: 3 months
Reasoning behind the Trade
- Stock shot up very fast and has to rest.
- There are two gaps that are calling to be filled.
- The half point options give it a better chance of filling quicker.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
