Thursday, February 23, 2012

Gold ETFs

Do you own gold or do you own NYSE:GLD, there is a difference.

We have been shouting for years and a deaf marketplace writes us off as conspiratorial.  Again and again we urge holders of the gold exchange traded fund NYSE:GLD to read the prospectus thoroughly.  Please explain how we are the conspirators when this comes directly from their prospectus?
So naturally when we see Bloomberg finally catching on to the undervaluation present in the gold mining sector we have to laugh.  They suspect that physical gold buying has taken capital from what would have been mining investment.

If the owners of NYSE:GLD ever read the prospectus and discover that they own paper derivative claims on gold instead of the real thing what would that do to capital flows?

Gold mining firms are quietly producing record earnings and the mainstream financial marketplace wants nothing to do with the sector.  This is how you identify the early stage of a bull market.  This is how you drink upstream from the herd.

Wednesday, February 22, 2012

Why Buy Silver?

Finding good information about the gold market is not difficult today. While the masses still do not acknowledge an 11-year bull market, ample coverage is available in the alternative financial press. The same cannot be said of silver. The lesser of the precious metals is drastically under-covered and perhaps offers an incredibly bullish set-up.

Silver exists in the earth's crust at a ratio to gold of 16:1. The current price ratio favors gold at nearly 52:1. When annual production is examined, disparities become even more apparent. 2010 gold production was roughly 2% of total supply or 2,700 tns (86 mil oz). 2010 silver mine production was roughly 735 mil oz. Considering the current price ratio, you would assume that lesser valued silver production would be far higher than the current 8:1 when compared to gold.

The Silver Institute published the following data which is helpful in understanding where silver production comes from and how it is being consumed. "Consumed" is the proper term for silver. Nearly every ounce of gold ever mined still exists above ground while almost all silver ever produced has been consumed.

When we objectively analyze this data we see that the supply picture is very tight. In fact, even a slight uptick in investment demand could be enough to sent this market into a new paradigm. As you can see from the chart below, US 1 oz. silver eagle demand alone has grown to more than 5% of annual mined supply. 2011 sales surpassed 2010 sales with 85 days remaining in the year:
In addition to a clearly out of balance supply/demand picture, silver bulls rage against the topic of COMEX sanctioned manipulation. There are currently several lawsuits crawling though the US justice system in an attempt to expose the issue. Even though these allegations sound a bit far-fetched, they are not hard to believe. When silver approached $50/oz last spring short interests attacked the market during electronic trading when all pit sessions were closed. They hit the market with selling that was so intense it triggered every stop loss order in its path. The CME also raised silver margin requirements 5 times in 8 days, drastically reducing leverage available to silver traders. Over a billion ounces traded in the paper market during one particular session. Silver bulls questioned how 1.25 times the annual supply could change hands in one paper session?

How To Own Silver:
The first step to owning silver involves developing a proper strategy. In the event that you and your financial adviser find a position appropriate, capital should be allocated in a balanced fashion. Here is our suggestion:
  • Physical Silver (Personal possession of metal)
  • Physical Silver (Traded on an exchange)
  • Silver Streaming Companies
  • Silver Miners
Having a proper allocation over these segments of the market will allow you to play the disconnected supply/demand picture with physical metal while using mining shares for capital gains.

Physical Silver:
Once your financial adviser suggests an appropriate portion of silver funds that should be dedicated to physical metal, half should be held in your possession. We suggest US, Canadian or Austrian 1 oz. coins for the small investor. 100 oz. and 1,000 oz. bars are available as your position size grows. In the US, is one of many low premium dealers available to help you with this purchase.

The second half of this allocation should be placed in a physical position that trades on a US exchange. Your broker will suggest the silver ETF SLV. Please consider that SLV is managed by one of the firms at the center of current legal action surrounding manipulation. If your broker feels that you are becoming a conspiracy theorist, plead with him and suggest PSLV. This alternative product is a closed-end fund trading on the NYSE and represents a claim on actual physical silver rather than being a paper derivative of silver like SLV. PSLV offers monthly delivery of metal in exchange for shares with a 1,000 oz. minimum. Consequently, the trust consistently trades at a premium to the value of the actual silver held. What does that tell you?

Silver Streaming Companies:
We know of only one worthy silver streamer, Silver Wheaton NYSE:SLW.

The company holds off-take agreements resulting from past financing of mines currently in operation. These agreements give the company the right to purchase silver at a fixed cost per ounce for the life of the mine that they helped finance. Often this silver is purchased under $5/oz and as the spot price rises the company's gross profit swells. The other feature that makes streamers appealing is that they avoid operational risks common in mining as well as escalating input costs.

Silver Miners:
Finally, the miners should be held in two different classes. You must distinguish between companies in production and companies nearing production. Exploration companies should be avoided entirely. We want to highlight one company meeting each of our criteria. We are not recommending these companies or suggesting you take action. We hope to merely start a conversation between you and your financial adviser as you seek his infinite wisdom.

Impact Silver Corporation CVE:IPT is a well managed pure-play on the silver market and the company flies under the mainstream radar. There are not many quality silver projects in existence. There are even fewer pure silver projects as the metal is most often a by-product of base metal production. As supply demand metrics continue to build pressure, we expect well-run firms operating properly to become takeover targets. Impact Silver is appealing in that they are set to triple production over the next two years without returning to the equity market for additional financing. The company has over $30 million in cash and no debt. They produce modest net earnings which will grow organically if they can execute their current strategy. We think they can and will.

Your financial adviser will likely see the need for some equity exposure in companies nearing production. Again, we feel that exploration companies are far too risky for individual ownership and a fund should be utilized for that portion of the market. We define near production as a reasonable expectation of operation within the next 5 quarters. Of course risks are present, often in final permitting, but at this phase of development we should be able to handicap those risks. The market is often excessively discounting share prices which can make these firms appealing.

Minco Silver Corporation TSE:MSV is another company that fits this definition. Again, we are not suggesting you own Minco, but it could start a productive conversation. The company is waiting on a final water permit which, if obtained, should green-light production within a year. If plans proceed as scheduled, the company will produce roughly 5 million ounces of silver per year at a cash cost of less than $6/oz. At current silver prices, the company would produce free cash flow equal to its entire market cap. This seems like an unreasonable discount in our view.

Again, only your trusted adviser can determine what is best for you. We are here only to help you understand that outsized gains often come from sectors that are not receiving proper press coverage. Have a conversation with your adviser and feel free to question what we have written here. Our goal is to help you recall that your own ability to think is called upon when real capital gains are sought.

Tuesday, February 21, 2012

Paradox of Elastic Currency

Really it is not possible to have it both ways.  You simply cannot have reckless and excessive currency creation designed to circumvent natural economic pruning without expecting deferred consequences.  Humans consistently seem to believe that they can augment natures processes.  We want to prevent any pruning of forests and then we are shocked when fallen unharvested trees become fuel for fires burning hotter and longer than usual.

The US seems to be the most arrogant currency manipulator that history has ever dealt with.  We ironically throw stones at China in this game but really they are acting rationally.  The excessive money creation must always flow somewhere.  As the Chinese have produced what the Americans asked for, cheap plastic toys and consumable items, their society has mopped up much of this excess money.

Here is where things get difficult for the US.  The Fed (reminder for new readers this is a private institution) has maintained order during this period of currency creation by keeping money scarce.  As long as money remains scarce, recipients of freshly printed currency will experience benefits.  For example, if you receive a pay raise during a depression, your buying power is greatly enhanced as most market participants are selling for survival which causes prices to fall.  The Fed has allowed its ownership to benefit from currency creation while keeping money out of the hands of the people.

Now we will be reminded that there are consequences to this behavior.  If you suppress prices do not act surprised when the recipient of this currency decides to take advantage of the bargains present.  And also consider that while Americans want plastic toys and cheap telephones, the Chinese want potash, gold, silver, rare earths, uranium and weapons.


Rare Earth Research Report

We have received countless emails from readers requesting direction in the rare earth sector.  As you begin to understand the fundamentals driving the rare earth market an investment seems mandatory.  The trouble is, most mainstream brokers are ignoring the space as their New York offices are not yet instructing them to participate.

After serious consideration, we partnered with Kevin Kerr of Kerr Trading to produce a comprehensive overview of the sector.  With this macro view in mind we suggest the 8 stocks that we feel are deserving of our capital.  There are over 250 projects currently being advanced but we feel that only 8 companies possess the proper economic, geologic and political fundamentals necessary for success.

If you buy the 8 stocks discussed in the report you will spend more in commissions that you will on the actual report.  Please pass this link along to anyone you know that would be interested in avoiding the steep learning learning curve present this sector.