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The Silver Series: Making The Case For Silver (Part 4 of 4)

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Making the Case for Silver as an Asset

Part 1: The Many Phases of SilverPart 2: Who Controls The World's Silver Supply?Part 3: The World's Growing Demand For SilverPart 4: Making The Case For Silver

2015 Silver Series Part 4: Making The Case For Silver

In the previous parts of The Silver Series, we’ve shown that silver has a rich and multi-faceted history with applications in money, health, and technology. We’ve covered the metal’s supply and geological origins, as well as the growing demand stemming from industry, investment, and other areas.

However, the real question for investors boils down to this: is it worth it to hold silver bullion or equities in a portfolio?

Silver and Gold

The two major precious metals are alike in many ways. They’ve both been used as money for thousands of years, and both are considered a store of wealth today. However, to understand the nuances of silver as an asset, it is important to keep in mind a couple of key differences that it holds from the yellow metal.

The most obvious difference is that silver is used much more widespread in industry than gold. Approximately 50% of all demand stems from technological applications like photovoltaics, automobiles, batteries, and other such uses. This gives silver a potentially wider range of demand triggers.

The other major difference is that in comparison to the gold market, silver trades thinly and with much higher volatility. In 2014, there was $20.4 billion of demand for physical silver and $159.7 billion demand for physical gold. Even more interesting, these physical markets are less than 1% the size of the total markets when factoring paper trades like derivatives, futures contracts, and options.

Silver typically hits higher highs and lower lows than gold. To the savvy investor, this creates great opportunity.

Why Own Silver?

The reasons an investor should consider exposure to silver can be summed up with three key points.

1. Diversification.

Silver has little or no correlation with most asset classes such as bonds, stocks, or real estate. This is because silver prices move based on supply and demand, but also because of other factors such as the global economic environment, futures market speculators, currency markets, the level of inflation or deflation, and central bank policy decisions. Even though silver itself is more volatile than many other asset classes, it does help reduce the overall risk of a portfolio by having less correlation to other asset classes. Over the last eight years, silver’s correlation to treasuries and bonds have been basically zero (-0.07 and 0.08 respectively). It has slightly higher correlation with US equities (0.23) and real estate (0.13).

2. Safe Haven

When the times get tough, silver is your friend. Even in the most challenging environments it holds its value or bucks the negative global trends.

How did silver do in the four years surrounding the Financial Crisis? Over a period where US equities, emerging markets, and REITs were down, silver more than doubled in value from 2007-2011.

3. Fundamentals and Value

The fundamental numbers around silver make it quite clear that silver could provide extreme value as an investment. Here are some key numbers:

  • In the earth’s crust, there is 1 gram of silver for every 12.5 tonnes of rock.
  • For centuries since ancient times, the gold-to-silver ratio was 15 to 1. That means 1 oz of gold could buy 15 oz of silver.
  • In the earth’s crust, there is 19x more silver than gold by mass.
  • The “modern” gold-to-silver ratio is closer to 50 to 1.
  • Yet, in mid-2015 the ratio is 75 to 1, which means silver could be very undervalued relative to gold.
  • The silver price, in terms of USD, is also at its lowest point in five years.
  • Silver miners are even cheaper, trading at their lowest valuation in years.

Silver, the metal itself, continues to have the same impressive properties, supply and demand fundamentals, and a rich history as money. What has changed is what people are willing to pay for it at a given time.

Right now it seems that silver is being sold for half price.

That’s the end of our Silver Series. Thanks for reading!

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Chart of the Week

Visualizing the Life Cycle of a Mineral Discovery

Building a mine takes time that poses risks at every stage. This graphic maps a mineral deposit from discovery to mining, showing where value is created.

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Visualizing the Life Cycle of a Mineral Discovery

Mining legend Pierre Lassonde knows a little bit about mineral exploration, discovery, and development. Drawing from decades of his experience, he created the chart above that has become a staple in the mining industry—the Lassonde Curve.

Today’s chart of the Lassonde Curve outlines the life of mining companies from exploration to production, and highlights the work and market value associated with each stage. This helps speculative investors understand the mining process, and time their investments properly.

Making Cents of Miners: The Stages of a Mineral Discovery

In the life cycle of a mineral deposit, there are seven stages that each offer specific risks and rewards. As a company proves there is a mineable deposit in the ground, more value is created for shareholders along the way.

  1. Concept

    This stage carries the most risk which accounts for its low value. In the beginning, there is little knowledge of what actually lies beneath the Earth’s surface.

    At this stage, geologists are putting to the test a theory about where metal deposits are. They will survey the land using geochemical and sampling techniques to improve the confidence of this theory. Once this is complete, they can move onto more extensive exploration.

  2. Pre-Discovery

    There is still plenty of risk, but this is where speculation hype begins. As the drill bit meets the ground, mineral exploration geologists develop their knowledge of what lies beneath the Earth’s crust to assess mineral potential.

    Mineral exploration involves retrieving a cross-section (drill core) of the crust, and then analyzing it for mineral content. A drill core containing sufficient amounts of metals can encourage further exploration, which may lead to the discovery of a mineable deposit.

  3. Discovery

    Discovery is the reward stage for early speculators. Exploration has revealed that there is a significant amount of material to be mined, and it warrants further study to prove that mining would be feasible. Most speculators exit here, as the next stage creates a new set of risks, such as profitability, construction, and financing.

  4. Feasibility

    This is an important milestone for a mineral discovery. Studies conducted during this stage may demonstrate the deposit’s potential to become a profitable mine.

    Institutional and strategic investors can then use these studies to evaluate whether they want to advance this project. Speculators often invest during this time, known as the “Orphan Period”, while uncertainty about the project lingers.

  5. Development

    Development is a rare moment, and most mineral deposits never make it to this stage. At this point, the company puts together a production plan for the mine.

    First, they must secure funding and build an operational team. If a company can secure funding for development, investors can see the potential of revenue from mining. However, risks still persist in the form of construction, budget, and timelines.

  6. Startup/Production

    Investors who have held their investment until this point can pat themselves on the back—this is a rare moment for a mineral discovery. The company is now processing ore and generating revenue.

    Investment analysts will re-rate this deposit, to help it attract more attention from institutional investors and the general public. Meanwhile, existing investors can choose to exit here or wait for potential increases in revenues and dividends.

  7. Depletion

    Nothing lasts forever, especially scarce mineral resources. Unless, there are more deposits nearby, most mines are eventually depleted. With it, so does the value of the company. Investors should be looking for an exit as operations wind down.

Case Study: The Oyu Tolgoi Copper-Gold Discovery, Mongolia

So now that you know the theoretical value cycle of a mineral discovery, how does it pan out in reality? The Oyu Tolgoi copper deposit is one recent discovery that has gone through this value cycle. It exemplifies some of these events and their effects on the share price of a company.

  1. Concept: 15+ Years

    Prospectors conducted early exploration work in the 1980s near where Oyu Tolgoi would be discovered. It was not until 1996 that Australian miner BHP conducted further exploration.

    But after 21 drill holes, the company lost interest and optioned the property to mining entrepreneur Robert Friedland and his company Ivanhoe Mines. At this point in 1999, shares in Ivanhoe were a gamble.

  2. Pre-Discovery/Discovery: ~3 years

    Ivanhoe Mines and BHP entered into an earn-in agreement, in which Ivanhoe gained ownership by completing work to explore Oyu Tolgoi. A year later, the first drill results came out of drill hole 150 with a headline result of 508 meters of 1.1 g/t Au and 0.8%. To get a sense of how large this is, imagine the height a 45-story building, of which a third of story is copper. This was just one intersection of an area that could stretch for miles.

    Wild speculation began at this stage, as steadily improving drill results proved a massive copper-gold deposit in Mongolia and drove up the share price of Ivanhoe.

  3. Feasibility/Orphan Period: ~2 years

    In 2004, the drilling results contributed to the development of the first scoping study. This study offered a preliminary understanding of the project’s economics.

    Using this study, the company needed to secure enough money to build a mine to extract the valuable ore. It was not until two years later, when Ivanhoe Mines entered into an agreement with major mining company Rio Tinto, that a production decision was finalized.

  4. Development: 7 years

    By 2006, the Oyu Tolgoi mineral deposit was in the development phase with the first shaft headframe, hoisting frame, and associated infrastructure completed. It took another two years for the shaft to reach a depth of 1,385 feet.

    Further development work delineated a resource of 1.2 billion pounds of copper, 650,000 ounces of gold, and 3 million ounces of silver. This first stage of development for Oyu Tolgoi made Mongolia the world’s fastest growing economy from 2009 to 2011.

  5. Startup/Production: Ongoing

    On January 31, 2013, the company announced it had produced the first copper-gold concentrate from Oyu Tolgoi. Six months later, the company stated that it was processing up to 70,000 tonnes of ore daily.

  6. Depletion: Into the Future

    The Oyu Tolgoi deposit will last generations, so we have yet to see how this will affect the value of the mine from an investment perspective.

    It’s also worth noting there are still other risks ahead. These risks can include labor disruptions, mining method problems, or commodity price movement. Investors will have to consider these additional conditions as they pan out.

  7. The More You Know

    Mining is one of the riskiest investments with many risks to consider at every stage.

    While most mineral discoveries do not match it perfectly, the Lassonde Curve guides an investor through what to expect at each stage, and empowers them to time their investments right.

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Central Banks

The Silver Series: The Start of A New Gold-Silver Cycle (Part 1 of 3)

As the decade-long bull run shows signs of slowing, is it time for precious metals to shine? Here’s why it could be the start of a new gold-silver cycle.

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The world has experienced a decade of growth fueled by record-low interest rates, a burgeoning money supply, and historic debt levels – but the good times only last so long.

As the global economy slows and eventually begins to retract, can precious metals offer a useful store of value to investors?

Part 1: The Start of a New Cycle

Today’s infographic comes to us from Endeavour Silver, and it outlines some key indicators that precede a coming gold-silver cycle in which exposure to hard assets may help to protect wealth.

The Start of a New Gold-Silver Cycle

Bankers Blowing Bubbles

Since 2008, central bankers around the world launched a historic market intervention by printing money and bailing out major banks. With cheap and abundant money, this strategy worked so well that it created a bull market in every sector — except for precious metals.

Stock markets, consumer lending, and property values surged. Meanwhile, the U.S. Federal Reserve’s assets ballooned, and so did corporate, government, and household debt. By 2018, total debt reached almost $250 trillion worldwide.

Currency vs. Precious Metals

The world awash in unprecedented amounts of currency, and these dollars chase a limited supply of goods. Historically speaking, it’s only a matter of time before the price of goods increases or inflates – eroding the purchasing power of every dollar.

Gold and silver are some of the only assets unaffected by inflation, retaining their value.

Gold and silver are money… everything else is credit.

– J.P. Morgan

The Perfect Story for a Gold-Silver Cycle?

Investors can use several indicators to gauge the beginning of the gold-silver cycle:

  1. Gold/Silver Futures

    Most traders do not trade physical gold and silver, but paper contracts with the promise to buy at a future price. Every week, U.S. commodity exchanges publish the Commitment of Traders “COT” report. This report summarizes the positions (long/short) of traders for a particular commodity.

    Typically, speculators are long and commercial traders are short the price of gold and silver. However, when speculators and commercial traders positions reach near zero, there is usually a big upswing in the price of silver.

  2. Gold-to-Silver Ratio Compression

    As the difference between gold and silver prices decreases (i.e. the compression of the ratio), history suggests silver prices can make big moves upwards in price. The gold-to-silver ratio compression is now at high levels and may eventually revert to its long-term average, which implies a strong movement in prices is imminent for silver.

  3. Scarcity: Declining Silver Production

    Silver production has been declining despite its growing importance as a safe haven hedge, as well as its use in industrial applications and renewable technologies.

  4. The Silver Exception

    Silver is not just for coins, bars, jewelry and the family silverware. It stands out from gold with its practical industrial uses which account for 56.1% of its annual consumption. Silver will continue to be a critical material in solar technology. While photovoltaics currently account for 8% of annual silver consumption, this is set to change with the dramatic increase in the use of solar technologies.

The Price of Gold and Silver

Forecasting the exact price of gold and silver is not a science, but there are clear signs that point to the direction their prices will head. The prices of gold and silver do not accurately reflect a world awash with cheap and easy money, but now may be their time to shine.

Don’t miss another part of the Silver Series by connecting with Visual Capitalist.

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