Sean Rakhimov: Three-Digit Silver Ahead
Source: The Gold Report (7/8/08)
In this exclusive interview with The Gold Report, Sean Rakhimov explains why he thinks silver will rise like a rocket in the next couple of years. He also gives some advice on how best to participate in the coming silver boom. Sean is the founder and editor of Silverstrategies.com, a web site dedicated to silver investing.
TGR: Where do you see the silver market going for the rest of this year and into 2009?
SR: Let's start with a little background. First of all, the silver market is very small relative to other markets and this introduces a lot of price volatility. Silver is also unique in that it is both an industrial and a monetary asset. It's easy to make quite a splash doing business as usual. In other words, the closure of a mine or opening of a new one can substantially influence the rest of the market. Silver happens to be one of the most versatile metals. Every year there is a continuous flow of new patents. In fact, silver accounts for more new patents for new applications than the rest of the metals combined. A few years ago digital photography was supposed to "kill" the silver market. Back then silver was $5 to $6, maybe $8. Every financial pundit, especially in the mainstream media, predicted digital photography would have an adverse impact on silver prices. Since then silver has tripled or doubled (depends on from where you're counting). I bring this up because it's similar to an equally important contra silver argument widely accepted by analysts and the media, namely, that silver is an industrial metal and not a monetary metal so it will behave more like base metals. Frankly, I find that argument laughable. The reality is that the monetary aspect of silver will dominate and carry it to astronomical heights in this cycle, which I expect to last another decade.
I try not to make short-term predictions since it is a futile exercise. Silver is too small and volatile a market with too many moving parts and relationships to base metals, economics, gold and who knows what else. Over the longer term, however, I believe silver will do spectacularly well. I absolutely believe we will see three-digit prices, perhaps over $200, and possibly over $300— as outrageous as it may sound right now. The looming financial crisis will be much more severe and prolonged than anything we can imagine. There will be a depression of sorts, especially in the U.S. and I expect silver to be one of the stellar performers.
TGR: Other than serving as a barometer of the financial markets, what will move silver into more of a monetary role?
SR: It's not the financial markets per se that will be the driving force. I think it’s going to be driven primarily by the man on the street trying to preserve his liquid assets—his buying power. He will not be reading analyst reports. No one listens to analysts in developing countries.
TGR: So you are not talking about the U.S.?
SR: I am talking about countries that have savings unlike North America, especially the U.S. I expect silver to make quite a run, perhaps on the magnitude of a double, probably within the next 18 months, pushing it up into the $30 range. When the silver price moves, it moves like a rocket. That is about the shortest-term prediction I can give you.
TGR: What’s causing it to stagnate now? It recently dropped down along with gold. Are we overly optimistic in the U.S.—putting our heads in the sand regarding what’s really happening in the financial markets?
SR:In the short term there could be any number of reasons—maybe 50—but a year from now we’re not going to remember any of them. We don’t remember the reason silver fell from $15 to $10 a year and a half ago and now it really doesn't matter.
TGR: Do you see silver paralleling gold or do you think it will eclipse gold in terms of its percentage rise?
SR: I got into silver back in 2000 because I figured that the place to be for the coming decades was the hard assets. Then I narrowed it down even more to gold. Whatever appreciation happens in the hard assets will be ultimately reflected in gold. It won’t be one for one, but it will eventually be the mean average.
Then I stumbled onto silver, realizing it offers you leverage over gold. It gives you everything gold gives you, only it will give you leverage in terms of the percentage of appreciation on your investment. That’s how silver became my focus.
Silver is definitely a monetary metal and will continue to be used as such if for no other reason than it can be saved and accumulated and stored. Gold and silver are also the most liquid. If you have a couple of rolls of—I don’t know—copper wire, it’s not an easy thing to dispose of. But you can take gold and silver to the bank or a coin dealer, or you can put it on e-Bay.
The other consideration is silver's relationship to gold. Silver often tracks gold and trades in tandem in terms of price. Yet the fundamentals underlying the two metals are quite different. As a monetary metal, silver has open interests in the futures market, similar to gold, which is many times greater than the physical supply of the metal. In that respect, silver is quite different from base metal. Base metals have futures markets too but the open interests in gold and silver are actually comparable to currencies as opposed to other metals. That’s another confirmation that the market views silver as a monetary metal. In good times, such as those prior to 2000, metals didn’t do particularly well. But, in bad times such as I see coming in the very near future, metals will resume the role of safe haven that they do so well.
While silver often moves with gold—both have recently been sold down severely—the amount of silver available to the market is actually less than the amount of gold available. Gold is for the big players—governments, big institutions, corporations—the big money. Silver, on the other hand, is for the average guy. And there are 6 billion more of these average guys than there are big players. In the past people used gold coins, silver coins, copper coins, and other forms of exchange. But the relationship between the gold coins and the silver coins was roughly 1 to 10 or 1 to 12, at times, 1 to 15 or maybe 16. That is a pretty strong relationship. Now, the reason for that is called "natural ratio". Essentially that refers to the ratio at which they come out of the ground. That is the ratio at which they occur in nature. The reason this is so important is that if we look at the price relationship of gold to silver, it will be roughly in the 50's. When I started studying this, the ratio was 100 to 1 in favor of gold. So, silver has outperformed gold by about 100% since 2001-2002.
There are many things to consider if you want to invest in silver. Some people do it for the insurance rather than to make a buck, so it can preserve buying power. Keep this in mind when you watch silver drop $1 a day or $5 a week. In the long run, I maintain that we will see three-figure silver prices. I believe that silver is very, very undervalued and has an extremely bright future.
TGR: Earlier you said: “Silver gives you more leverage than gold.” Could you expand on that?
SR:That is undeniably true. The natural ratio depends on how much more gold is mined than silver; in some areas more silver is mined than gold, as is the case in Latin America versus South Africa. The natural ratio is in the range of 10 to 15 and it has lasted for thousands of years. I use the word “leverage,” not referring to leverage you get by buying, say, mining stocks or futures, or anything like that. What I mean by leverage is simply that there is less silver available, and it’s trading at a cheaper price relative to gold. Some catching up has to take place to revert to the mean of the historic price ratio. Leverage exists in silver's relationship to gold; so, if gold goes up 100%, I maintain that silver will do better than that over the longer term.
TGR: You are in contact with a lot of silver companies; that’s your main focus, right? Are there some that merit investment consideration?
SR: The recent performance of the markets would suggest that I don’t.
TGR:Really? I would think there would be opportunities with some of the pullbacks.
SR: Oh, I agree with you. Generally speaking, some of these stocks are trading at levels that present an excellent opportunity to gain exposure to the silver sector. I prefer the juniors because they’re more accessible—you can go and meet the president. The juniors are closer to the market, and more in tune with their investors. The bigger companies cater to the bigger investors. So, the silver sector has taken quite a beating along with related stocks in the commodities area, with the exception of potash and oil companies. Even the oil companies are not doing that well relative to the oil price itself.
So, in the silver sector, I visited all four of First Majestic Silver's (TSX: FR; PK SHEET: FRMSF) mines maybe two and a half-three months ago. I was very impressed with the company. I think they have a very good future, and at their current price, it will be a good investment for the year ahead. If you had a silver index, I think their performance would beat the silver index.
Among the juniors I like the producers. Fortuna Silver Mines, Inc. (FVI) is a good company in that regard. It’s been sold off by the market for whatever reason. I think they’re going to do well.
TGR:They’re a producer?
SR:Yes they are. There's also a company called Minera Andes (TSX.V:MAI) that is one of my favorites. The company has been around for quite some time in Argentina. They have very good management. Rod McEwen is a large investor in the company. I like the management; I like their style; I like their execution.
They have a very large and sophisticated partner for their project that is in production, which is Hochschild Mining (HOC: LSE), a big mining company in Latin America, listed on the London Exchange actually. So, they’re a 49%-owner in a producing mine in San Jose, Argentina.
They’ve expanded the project, which (the expansion) should start operating later this year. And they paid their part of the cost of the expansion, but have not yet reaped the benefit. The expansion should double their production, making them a significant producer.
Most of these junior producers are in Mexico. One that isn't, that I like a lot is Silvercorp Metals Inc. (SVM). I’ve been watching it since it was SKN Resources. By the way, for full disclosure, I own First Majestic; I own Silvercorp; I own Minera Andes. I would actually have to think twice before I would recommend a company that I don't invest in myself. So, Silvercorp's operations are in China. This company has done spectacularly well. I think it will continue to perform very well. It will probably become a takeover candidate in the next couple of years as the price of silver goes up.
There are two up-and-comers I like. Kootenay Gold (KTN) is one of them. Although their name suggests they’re a gold company, their main project is silver. This company has been around for about two years and has some good drill results. We don’t know the extent of their discovery yet, but I would certainly qualify it as an "A Discovery" at this point.
Another company I like is Geologix (GIX), which also has projects in Mexico. Now, Geologix is actually somewhat different. I met with the management; and was very impressed with the caliber of people they have. The project so far has indications of being equally stellar. They did a deal with Silver Standard Resources (SSRI) and acquired the land around it. The project had some very good drill results, and it looks like it’s a big deposit. We don’t know how big it is and are now awaiting an initial resource calculation. The market has been less than enthusiastic because Geologix had a potentially large payment coming due for the project they acquired from Silver Standard. The good news is that the size of the payment is directly tied to the amount of the resource they find. So, the larger the resource, the larger the payment, but it also means the larger the value in the company. They had enough cash to get through early 2009, and they had quite a healthy burn rate drilling and extending the deposit in Mexico. So, that’s another company that I like.
There’s a bunch of companies that I like but I hesitate to say flat out “Oh, buy this company.” I have discovered that it's better to inquire about the objectives and the investment style of the potential investor. These companies often have ups and downs, which can be quite dramatic and not everybody’s cut out for that degree of volatility. Many are very long-term propositions. Mining is a very risky business. For those who do not spend a lot of time researching these companies or understanding the sector, the most prudent and safe choice would be silver bullion—a must-have. I also think that the larger silver companies will perform very well. Pan American Silver Corp. (NasdaqGS:PAAS) will do extremely well. Silver Wheaton Corp. (SLW) will also do very well. They’re fantastic investments at current prices. A little company called Silverstone Resources (SSP) will also do very well.
TGR:You follow these companies for a long time don't you?
SR: I have a long history with some of them and have been tracking them long before they became what they are today. For instance, I picked up Silver Wheaton when it was called Chap Mercantile. At that time it traded at $.65 per share, and today it trades at $14 and is a $2.5 billion company. I think investing is more about the investor rather than the investments. Most people can’t get out of their own way in terms of these investments. They need patience. These things take years. I remember Western Silver (WTC.TO) when it was Western Copper and trading below a dollar. It sold for $20 plus.
TGR: I’m looking at a couple of charts. Silverstone Resources has been in this $3 base-building area and trading from $2.50 to $3.50 for quite awhile. Geologix was similar. This stock ran up in May of 2007, pulled back down, retested in December 2007, pulled back down, and now appears to be headed for that $3 level, which it has tested three times. From a technical standpoint, both of these stocks have very attractive chart patterns.
Can you comment on both of them in terms of what the markets may be waiting for? Is there a 43-101 or are there more drill results? What’s cooking behind the scenes in these companies?
SR: Let's start with Geologix since I have gotten an update on them recently. Their first resource calculation should be coming out later this year. The payment is structured so that they have to pay per ounce of silver on the part of the property that they acquired from Silver Standard. The same is true for gold. What is often overlooked is that they do not pay anything for base metals that they discover on the property they acquired from Silver Standard, and base metals constitute about 50% of the value.
TGR: When you say “later on this year,” is that this summer, this fall, or is there a target?
SR:I would expect them to have something by the fall. The payment is due to Silver Standard by February 2009, so in the next six to eight months there will be substantial developments for the company. Questions remain as to how they will choose to make that payment or what the size of the resource will be. But the good news is they have a real asset there, and I don’t know how it’s going to be reflected in the share price, but I would expect it is going to be favorable.
TGR: So, Silverstone is a bit of a different breed of a company?
SR: Yet it is similar. Last August it had a big falling off, then it ran up back up to that $3 level. The credit crunch explains the drop off in August.
TGR: More like a credit meltdown.
SR:I would be willing to overlook that. Silverstone models itself after Silver Wheaton. They have royalties that are more like semi-royalties that they would acquire from producing mines at a fixed cost in the future. They are also working on their own silver projects in Mexico. What I find attractive is that the costs on a large portion of Silverstone's future silver production is fixed—at a time when operating costs in the mining sector are skyrocketing. I also like the management; they have excellent people, and have been very successful so far. So I expect good things from them.
TGR: Will this be event-specific?
SR: They will have some mines that will be coming into production down the line, but in the short-term these companies react very well to silver price appreciation—and I expect the silver price to double.
TGR: What kind of events could trigger something like that? Are you referring to ongoing credit worries?
SR: I believe we're going to see across-the-board revaluation of hard assets. $6 copper will become the norm. $130 to $150 oil will be the new reality. This commodities bull market is here to stay and people will accept that. One big development I see coming is a sweeping wave of nationalizations across the world. I think this is going to happen to resource companies across the board, not just silver.
TGR: That would put pressure on the entire sector.
SR:Yes, and it would certainly put pressure on Mexico where a lot of these companies are. Mexico and Peru are the two largest silver producers in the world. Mexico is part of NAFTA, at least for the time being. We don’t know how it’s going to shake out in the next couple of years. But Mexico has closer ties to the U.S. and Canada than some of the other jurisdictions.
For now, Mexico is considered to be the best mining jurisdiction in the world, which is good for silver and silver companies. But these things can change on a dime. I expect that some of these nationalizations will start to occur after 2010, and perhaps after $50 silver, $2000 gold. I wouldn't expect Mexico to hike royalties and taxes to unbearable levels as Mongolia and Zambia have done.
This nationalization process will have governments everywhere saying: “This resource is ours and we’re going to hang on to it.”
TGR: That's interesting. So it’s putting up trade barriers; it’s putting up nationalistic barriers.
SR: It won't be just trade barriers; it’s more like bargaining chips. Some countries are already curbing exports of food and some of their minerals—oil, for instance. Eventually all nations will retaliate by withholding their assets.
TGR: There's one last stock I'd like you to discuss. Do you have any thoughts on Silver Recycling Company, Inc. (TSR.V) that you'd like to share with our readers?
SR: That’s a very interesting story. The idea itself is brilliant. I think it has a very bright future provided it works out on the ground. Silver Recycling is unique in the mix of silver investments. You have bullion; you have ETFs; you have futures; you have stocks; you have warrants in some cases; and mutual funds. Then you have companies like Silver Recycling, which may give you exposure to the silver price. Its margins are not tied to the silver price, except in the volume they can process. A mining company produces silver at $5 per ounce, whereas a recycling company has to buy this stuff all the time, so theoretically that reflects the spot price or maybe a futures’ price. There’s a sliding scale where they will have to pay higher prices depending on what silver sells for. There isn't unlimited upside in terms of margins, but I think the company has unlimited potential for expansion because the number of private recyclers in the U.S. alone is over 100. Silver Recycling Company is just getting started. They will consolidate three private operations and bring them under one umbrella. Many of these operations are family-owned businesses with limited opportunities for expansion. By bringing them together as a public company there are more options for financial expansion, growth, and diversification of assets. Silver Recycling just closed a deal on one of the operations that had $85 million in sales in 2007. This is going to be a cash-flow type business; their numbers will be profitable all the way down to $6 silver. The price they pay for scrap is based on the silver price, so there is a built-in margin.
TGR: How many ounces will they process in a year?
SR: With the current acquisition, I don’t have the latest numbers. But I think it's in the area of five million ounces but don't quote me on that.
TGR: How does that compare? Give me a 5 million-ounce producer.
SR: Well, actually in the public sector, I don’t know that there is one. It falls into that middle area where you have the companies under that threshold, and then you have the companies above that threshold like Hecla Mining Company (HL) and Coeur d’Alene Mines Corp. (CDE). Of course they’re in a bit of different league.
TGR: How many ounces do they produce a year?
SR: I believe Hecla produces approximately 6 to 7 million ounces, but they also have a gold aspect and they recently made a big acquisition in Alaska and another in the Silver Valley. So, those numbers will change.
TGR: And those are the silver equivalents?
SR: No, the 6 million ounces for Hecla or the 6-million ounce range is for silver itself. Again, they do produce some lead and zinc, and I do not know for a fact if that would be an equivalent, but the bulk of it is silver.
TGR: Who is next down on the food chain?
SR: The next one down on the food chain would be First Majestic Silver Corp. (TSX: FR).
TGR: How many ounces are they producing?
SR: Well, they did about 3.5 million last year, and this year I think the plan is to do about 5.5 million, so this company would be in the range. It’s a mining company with operations in Mexico, we're not comparing apples for apples here, but that company has a market of well over $200 million.
TGR: Different business models—one’s got an asset and one’s got a business.
SR: Right, they’re different type operations, but the ultimate product is silver. That’s why we’re interested in a company like Silver Recycling. It’s a start-up with some ambitious goals. It has a very timely and viable idea. It provides another option for diversification of silver investments.