The Federal Reserve's announcement that the next round of quantitative easing would begin this week was not news to anyone who has been following the economy of late, but the extent of the Fed's action has left many shocked. The news not only drove all of the major indexes higher during Thursday's session, it also pushed precious metals and miners to significant price spikes. While the bump was a welcome surprise for anyone who already owns shares of these names, the question now is how to trade them after the rise. Silver Wheaton (SLW), which was up 5.7% during Thursday's session, is one of the preferred companies in the precious metal space. Despite the healthy appreciation the stock has seen over the last month, there is more upside in the stock.
The Fed's Bold Move
While previous rounds of quantitative easing were given specific caps at the time they were announced, this latest round lacks any concrete time frame. QE1 and QE2 combined for about $2.3 trillion in spending, making them exorbitantly expensive, but with a price tag. The language of Thursday's announcement stated that the Fed would spend $40 billion per month, but failed to mention a cap on the total amount that may be spent. Where the statement really becomes unprecedented is in the connection it makes to the labor market:
If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability. In determining the size, pace, and composition of its asset purchases, the Committee will, as always, take appropriate account of the likely efficacy and costs of such purchases.
The fact that the previous attempts have failed to create any jobs seems to have left Bernanke undaunted; the theory seems to be that if $2.3 trillion failed, a kagillion might do the trick. One seeming positive is that if this round of easing never ends -- making "QE4-Ever" a more apt name -- investors will not need to be concerned about what happens when it ends or when another round might be tried.
The jaundiced view is that with a sputtering economy in an election year, this move is the only Hail Mary, all-in, swing-for-the-fences move that remains. In this interpretation, the decision is more political than legitimately economic. There is some credence for this belief when one considers that while Bernanke has frequently insisted that fiscal policy must play a role in a recovery, his overreaching monetary policy runs over the possibility of a meaningful fiscal solution.
If one wished to give the Fed the benefit of the doubt and make a huge leap, it could be argued that the symbolism of the move is the critical element. The idea that sending a message that employment will be solved may be enough to move us in that direction. This may be a stretch, but it is one of the few arguments that reconciles the decision with economic rather than political policy.
Silver Wheaton and Its Peers
One of the chief reasons that Silver Wheaton is such a popular investment choice is because its business plan, as a silver streaming company, allows it to achieve a 75% operating margin. The company does not actually mine silver. Rather, it contracts with other miners, purchasing the metal at a predetermined fixed price. The company currently has reserves of approximately 800 million ounces of silver at an average price of $4.04. The higher silver climbs, the larger the spread earned by the company.
Other silver miners, including Pan American Silver (PAAS) and Hecla Mining (HL), face operating risks that are avoided by Silver Wheaton. ETF options, like the iShares Silver Trust (SLV) and the Global X Silver Miners ETF (SIL), offer a commodity play or a diversified option, respectively. But the Silver Wheaton model is hard to beat. The company's contractual relationships mean that the price of silver would have to experience a catastrophic collapse for the company to surrender profitability. This is an unlikely outcome.
When comparing Silver Wheaton to gold options, silver tends to be more volatile. Companies like Barrick Gold (ABX) and Goldcorp (GG) look very attractive at current levels, but if metals are going to spike, the percent returns should be higher in silver. The silver market is considerably smaller than the gold market. This tends to intensify moves. Silver should offer greater upside, but more risk over time.
Trading the News
While it is not typically prudent to buy a stock after it has popped by nearly 6%, Silver Wheaton may be an exception. The stock is a strong buy on any meaningful dip, but waiting could be risky. With the Fed vowing to spend until it hurts, inflation will show up eventually. This makes commodities, particularly precious metals, a critical allocation. Investors should be prudent when picking their entry points, but it is time to be in Silver Wheaton. There is an important resistance level between $40 and $41, and if this level is broken the stock could easily pop to $45 or beyond.