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Silver Wheaton (SLW) has performed extremely well recently, up over 50% in just the last three months. During the last year, however, the stock has tested the $40 level several times without breaking it. While the stock's 52-week high is above this level, it was reached nearly a year ago, leaving investors to wonder if the stock has made its run or if it continues to have upside potential. Ultimately, while $40 has been established as a critical technical level, the stock is poised to go much higher over the medium and longer-term.

(click to enlarge)SLW Chart

SLW data by YCharts

The Technical Picture

While Silver Wheaton has been here twice before during the previous year, there are some different technical factors that should be considered. First, the last two times the stock tested $40, the Relative Strength Index (RSI) remained very high until the stock had fallen significantly. In the current case, the RSI(14) reached a reading above 88 when the stock touched $39.65 a few days ago, but has fallen to 65.8 with the stock sitting at $39.42 as of this writing. The stock is no longer significantly overbought and should be able to break through on any positive moves higher.

Another significant difference in this case is in the level of divergence from the mean that the stock is experiencing. In the two previous instances, the stock was more than two standard deviations above the mean using (20,2) Bollinger Bands. In the current case, even though the stock has run, the level of divergence is significantly less. This indicates that the stock may still have upside potential even at current levels.

The Fundamental Picture

For the non-technicians, the real question that is being asked is if the stock has enough upside remaining to justify buying the stock after it has appreciated 50% in three months. The price appreciation has driven the P/E up to 24.6, which looks a bit high relative to a pure silver play like Pan American Silver (PAAS), trading at a multiple of 11.1. Unlike Pan American, however, Silver Wheaton is a silver streaming company, meaning that it is not exposed to the same mining risks as a traditional miner. This is one of the primary reasons that Pan American has an operating margin of 36%, while Silver Wheaton is able to attain an operating margin of 75%.

The global macroeconomic environment seems well primed to send precious metals prices even higher. During the second quarter, the Commerce Department reports that the economy grew at a rate of 1.3%, well below the estimated 1.7% that was released last month. The news helped to drive the prices of gold and silver higher, leaving investors to contemplate the overall weakness of the economy as a driver of safe haven investments like gold and silver. When the continued weakness in Europe and the expected impact of the latest round of quantitative easing are added to the mix, the way forward for precious metals looks very strong.

What About Gold?

While the silver market is significantly smaller than the gold market, its heightened volatility tends to produce higher returns during bull markets. Despite this, it will be useful to consider some of the stronger gold plays before settling on an investment in Silver Wheaton; this will help give a more thorough picture of the precious metals markets, allowing us to consider the systematic element of Silver Wheaton's battle with the $40 level:

Barrick Gold (ABX) - Barrick continues to be one of the strongest plays in gold based on both the magnitude of its reserves and the quality of its management. As the first major miner to abandon the "growth at all cost" mantra, the company continues to explore divestitures that will streamline its operation and add to its bottom line.

Royal Gold (RGLD) - Royal Gold is a streaming company similar to Silver Wheaton. On a relative basis, however, Royal has outperformed in the recent-term, leaving Silver Wheaton with better upside potential.

Goldcorp (GG) - Goldcorp recently decided to defer additional development projects, somewhat following Barrick's example of increased discipline. While Goldcorp is sizeable, it does not have Barrick's absolute size. Development costs are a clear issue in the market and should figure into any decisions.

Newmont Mining (NEM), Kinross Gold (KGC) and Gold Fields Ltd (GFI) - Each of these companies is interesting because of their respective reserve levels. While Newmont has the greatest diversification, Gold Fields has a very attractive relationship between reserves and current production. Overall, each is an interesting play, but lacks the overall profile of Barrick.

Gold investments look solid against the macroeconomic backdrop, but Silver Wheaton remains the single most attractive long-term play.

How to Trade Silver Wheaton

While Silver Wheaton is poised to break through this critical resistance level, trading the stock becomes a very interesting choice at current levels. As a long-term holding, the stock is an absolute buy, but more cautious investors may wish to wait until the stock either breaks $40 or settles lower at a more attractive entry point. If the stock breaks this resistance, it has the potential to run immediately, making a wait-and-see approach risky for anyone afraid to miss this run. Ultimately, the stock has enough upside potential that entering immediately with at least a partial position seems warranted.

Source: Can Silver Wheaton Break $40?