Downtrend no more! Silver ended a three-year slide in 2016, with physical silver increasing by roughly 15% from where it began the year. Nonetheless, ending the year at $15.90 per ounce is still a far cry from the $48.28 per ounce closing high struck in April 2011.
Why physical silver regained its luster in 2016
As you might have rightly surmised, silver mostly took its cues from gold in 2016. Heading into last year, the Federal Reserve was expected to hike its benchmark federal funds rate four times, pumping up interest rates and increasing the opportunity cost of owning precious metals. However, by year's end the Fed had only raised rates one time, providing a platform for gold and silver to continue to thrive, and keeping near-guaranteed interest-bearing assets, such as bank CDs, out of sight and out of mind.
Demand for both silver and gold has also remained strong. Silver is especially conductive, making it a regularly used product in the technology sector. In particular, silver plays a vital role in heat and electrical conductivity for solar panels, thus the proliferation of solar is only going to be a growing positive for silver.
The historic correlation between gold and silver may also be playing a role. Between 1900 and 2000, the gold-to-silver per ounce price ratio averaged about 47. As of their closing values in 2016, gold's per ounce price was more than 72 times higher than that of silver. Even though silver outperformed gold in 2016, it could have an even greater outperformance to come if this historic average holds true to form.
Not surprisingly, it was investors in the individual silver mining companies that benefited most from the ascent of spot silver. Seven out of nine silver miners at least doubled in 2016, as you can see in the annual percentage gains listed below:
- Coeur Mining (NYSE:CDE): 266.5%
- Great Panther Silver (NYSEMKT:GPL): 232%
- Hecla Mining: 177.2%
- Fortuna Silver Mines (NYSE:FSM): 151.1%
- Endeavour Silver: 147.9%
- First Majestic Silver (NYSE:AG): 133.3%
- Pan American Silver: 131.8%
- Silver Standard Resources (NASDAQ: SSRI): 72.2%
- Silver Wheaton (NYSE: SLW): 55.6%
Three big surprises from silver stocks in 2016
Considering that silver was up 15%, and the broad-based S&P 500 rose by a more pedestrian 9.5%, you could have thrown a dart at any of these names and walked away a winner. However, there were three notable surprises among these performances.
1. The silver miner with the highest AISC was the top performer
Arguably one of the bigger surprises in 2016 was that the industry's top-performing mining company, Coeur Mining, also had the highest all-in sustaining costs (AISC) of any of the nine mining companies.
We as investors would like to see as low of an AISC as possible, because it means a bigger buffer between the spot price of silver and the projected AISC for a miner. As of the third quarter, Coeur Mining forecast a midpoint AISC of $14.50 per silver ounce. By comparison, Fortuna Silver Mines and First Majestic Silver offered full-year AISC forecasts at the midpoint of $11.10 per silver ounce and $11.93 per silver ounce, respectively. They would, on paper, seem to offer investors an advantage over Coeur Mining due to their wider AISC margins.
However, Coeur's higher costs are almost entirely forgivable considering the transformation that's currently under way. Coeur Mining is moving from a combination of open-pit and underground mining to an entirely underground mining platform. The costs to make such a move can be hefty upfront, but they'll lead to lower capital expenditures and higher ore grades once completed.
Coeur Mining has also worked wonders in the debt department. During the third quarter, Coeur wound up reducing its debt by 21%, or $109.3 million, to approximately $400 million. Less debt means not only better financial flexibility, but lower annual interest expenses.
Once Coeur Mining has completed its transition, the company's AISC should fall considerably, and its cash flow could soar.
2. The smallest miner of the bunch was practically its top performer
Another big surprise was that the veritable "Mighty Mouse" of the group, Great Panther Silver, was nearly the top performer. Chances are that Great Panther actually would have been the best silver stock in 2016 if it hadn't completed a $29.9 million bought deal in July where it sold nearly 18.7 million shares of common stock along with accompanying warrants at $2.25 per share. The potential for these warrants to be executed probably pushed Great Panther Silver lower.
But, in the grand scheme of things a 232% gain is nothing to sneeze at; and there are a couple very good reasons why Great Panther did so well. To begin with, the company actually reduced its full-year silver AISC forecast by $1 per ounce at the midpoint, primarily as a result of better-than-expected production and lower AISC at its rapidly growing San Ignacio mine, which is within the Guanajuato Mine Complex in Mexico. Mine expansion at San Ignacio should have been completed by the end of the fourth quarter (we'll find out more when Great Panther files its Q4 report), leading to an additional 150 tons per day being mined.
At the same time, Great Panther has a storied history of delivering production growth. Between 2011 and 2016, it practically doubled silver equivalent ounce (SEO) production to more than 4 million SEO, all while staying out of debt and retaining 100% ownership of its silver and gold streams.
It may be small, but Great Panther Silver could be a force to be reckoned with.
3. Arguably the most attractive silver stocks had the "worst" performance
Finally, the silver stocks that were among the worst performers in 2016 – I say "worst" very loosely, because a nearly 56% yearly gain is nothing to complain about – are probably the most attractive within the silver industry. Admittedly, there's also some bias here being a shareholder of both Silver Wheaton and Silver Standard Resources.
Silver Wheaton isn't like your traditional silver mining company. It's actually a royalty interest company. It provides large sums of upfront capital to mining companies that's used to develop new mines or expand existing mines. In exchange, Silver Wheaton receives long-term or life-of-mine contracts that gives the company the right to purchase a percentage of the gold, silver, or other byproduct produced at well below market prices. For example, during the third quarter, Silver Wheaton's average silver and gold cash costs (not to be confused with AISC) on a per ounce basis were $4.51 and $390, respectively. This represents a huge margin buffer over the current spot prices of these precious metals.
Furthermore, Silver Wheaton isn't responsible for the day-to-day costs of operating a mine, and it's also not tied down to only a single producer, meaning production problems at a single mine or two won't wreck its quarter. With the highest margins in the industry, Silver Wheaton is a name investors should strongly consider.
Of course, I'm also partial to Silver Standard Resources with its "paltry" 72% gain in 2016. Silver Standard Resources made a big move in 2016 by gobbling up Claude Resources and its Seabee gold mine. Contained within Seabee is the Santoy Gap, an area of higher ore grade gold that was brought to commercial production ahead of schedule by Claude Resources, and which pushed its annual production about 40% higher to around 70,000 ounces annually from 50,000. The addition of Claude Resources brings immediate earnings accretion and cash flow for Silver Standard.
Concurrently, Silver Standard Resources is also benefiting from a decline in silver mining costs at Pirquitas, which has essentially reached the end of its mining life. While this will mean lower silver production in the years to come, it also helps reduce Silver Standard Resources near-term costs, which is a positive for its margins.
Both Silver Wheaton and Silver Standard Resources remain two of my personal favorite silver stocks going forward.