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Silver Miners’ Q3’21 Fundamentals – Adam Hamilton

The silver miners’ stocks have surged higher recently, starting to mean revert out of deep capitulation lows.  Those improving technicals have started thawing the bearish sentiment that plagued this tiny contrarian sector last summer.  The silver stocks’ latest earnings season wrapping up in mid-November revealed how these miners are actually faring operationally and financially.  Do fundamentals justify more gains?

The silver-stock world is really small, with primary silver miners deriving over half their revenues from producing the white metal increasingly-rare.  Only a handful of exchange-traded funds track this forgotten sector, led by the SIL Global X Silver Miners ETF.  While also miniscule with just $1.2b in net assets in mid-November, SIL is the best-available sector benchmark.  The silver stocks have had a wild ride this year.

Their price action closely mirrors gold stocks’, as silver’s dominant primary driver has always been gold.  So SIL’s swings this year closely tracked those in the leading GDX gold-stock ETF like usual.  Silver stocks were enjoying a solid young upleg last spring, with SIL surging 27.5% between late March to early June.  But silver and thus silver stocks were sucked into gold’s sharp mid-June selloff on Fed-tightening fears.

Gold’s taper tantrum for the Fed starting to slow its epic quantitative-easing money printing unfolded in the months leading into that actual announcement.  Between mid-June to late September, several bouts of heavy-to-extreme gold-futures selling crushed the entire precious-metals complex.  The resulting silver-stock carnage hammered SIL 30.2% lower climaxing in an ugly capitulation, fueling serious bearish psychology.

But like gold stocks, silver stocks have recovered sharply out of those deep lows.  By mid-November SIL had rebounded 21.6% higher at best.  That solid mean-reversion rally coincided with their latest earnings season covering Q3’21.  For 22 quarters in a row now, I’ve painstakingly analyzed the latest results from the top 15 SIL component stocks.  Mid-month they commanded fully 86.1% of this ETF’s total weighting.

This table summarizes the operational and financial highlights from the SIL top 15 during Q3’21.  These major silver miners’ stock symbols aren’t all US listings, and are preceded by their rankings changes within SIL over this past year.  The shuffling in their ETF weightings reflects changing market caps, which reveal both outperformers and underperformers since Q3’20.  Those symbols are followed by current SIL weightings.

Next comes these miners’ Q3’21 silver and gold production in ounces, along with their year-over-year changes from the comparable Q3’20.  Output is the lifeblood of this industry, with investors generally prizing production growth above everything else.  After that is a measure of silver miners’ relative purity, their percentage of quarterly sales actually derived from silver.  Most silver miners also produce gold or base metals.

Generally the more silver-centric a miner, the more responsive its stock price is to changing silver prices.  So traders looking for leveraged silver exposure via its miners’ stocks should stick to the purer producers.  Then the costs of wresting that silver from the bowels of the earth are shown in per-ounce terms, both cash costs and all-in sustaining costs.  The latter subtracted from silver prices help illuminate profitability.

That is followed by these miners’ hard quarterly revenues and earnings reported to securities regulators.  Blank data fields mean companies hadn’t reported that particular data as of mid-November when Q3’s earnings season was winding down.  And annual percentage changes are also excluded if they would prove misleading, like comparing two negative numbers or data shifting from positive to negative or vice versa.

Silver had a rough Q3’21, plunging 15.1% on that big gold-futures selling!  Far worse than gold’s parallel 0.8% Q3 slump, that reflected seriously-bearish silver sentiment.  The silver miners’ results were mixed in that challenging quarter.  While their collective silver production slumped, that was offset by higher gold output boosting revenues.  But earnings still plunged on higher costs with flat quarterly-average silver prices.

Primary silver stocks are becoming rarer, threatening to go extinct entirely!  That’s not because they are failing, but increasingly diversifying into gold with its superior economics.  This trend of yellowing silver miners has been ongoing for many years, making me wonder if each quarterly silver-stock-fundamentals essay I pen will be my last.  SIL has actually long-proven a gold miners ETF, with mostly-byproduct silver output.

The SIL-top-15 ranks include some of the world’s biggest and best silver miners, yet still their collective production declined last quarter.  These elite companies mined 77,997k ounces of silver in Q3’21, which shrunk 3.2% year-over-year.  Declining silver mined was fairly widespread too, with more of the SIL top 15 suffering waning production than experiencing output growth.  Traditional silver miners are focusing on gold.

That was super-obvious again in Q3, with the SIL top 15’s yellow-metal output surging 11.8% higher YoY to 1,588k ounces!  That proved a new high-water mark in these major silver miners’ gold production in the 22 quarters I’ve been advancing this research thread.  For better or worse, this leading silver-stock ETF is becoming ever-more gold-centric.  Last quarter only 37.7% of SIL-top-15 revenues were derived from silver!

That’s just 3/8ths, a disappointingly-light fraction for traders looking to use SIL for silver-stock exposure to rising silver prices.  Last quarter only three of these SIL-top-15 silver miners still generated over half their revenues from selling the white metal.  Their purity percentages are highlighted in blue above, and this remaining handful of real silver companies only accounted for 28.9% of SIL’s total weightings in mid-November.

Over 3/4ths of that came from Wheaton Precious Metals alone, which has long topped SIL as its largest holding.  This company isn’t even a silver miner, but a streamer.  It purchases fractions of future silver and gold outputs from other mines, for big upfront-capital payments followed by low ongoing per-ounce fees.  Selling precious-metals streams to companies like Wheaton helps miners finance expensive mine builds.

Silver streaming was Wheaton’s original focus, but as it increasingly diversified into gold streaming it changed its name from Silver Wheaton to Wheaton Precious Metals in May 2017.  But interestingly that silver-gold pendulum swung back the other way in Q3’21.  This company just changed its production mix for 2021 guidance, slashing gold a big 12.3% at the midpoint.  That was offset by silver’s midpoint rising 11.8%.

But this gold-to-silver shift is temporary, fueled by higher production at silver mines Wheaton purchased streams from and lower output from a key gold mine undergoing a major expansion.  WPM is also making more streaming deals for other metals including palladium and cobalt.  Miners really like construction financing through streaming contracts, since their terms are far-less-onerous than banks’ which require hedging.

Pan American Silver and SSR Mining reported both growing silver and gold production in Q3.  Yet they overwhelmingly remained primary gold miners, with only 25.5% and 16.4% of their Q3 revenues coming from silver mining.  PAAS will probably have to change its name soon, and SSRM was previously known as Silver Standard Resources for many years.  Other traditional major silver miners are following in their footsteps.

First Majestic Silver, which SIL includes under its Canadian stock symbol FR, was long the purest major silver miner.  Just a couple quarters ago in Q1’21, nearly 76% of its sales were driven by silver mining!  But last spring it purchased its first pure gold mine to add to its portfolio of three primary silver mines.  Q3 was its first full quarter of operations, catapulting First Majestic’s gold output up 111.2% YoY to 55k ounces.

Meanwhile silver production only climbed 4.5% YoY to 3,302k.  Traditional major silver miners are pouring their capital and expertise into developing gold mines.  As First Majestic focuses on optimizing this one, gold’s coming output growth will likely continue to outpace silver’s.  Thus depending on how average silver and gold prices fare, even this stalwart silver pillar will probably soon morph into a primary gold miner.

SIL also holds Fortuna Silver under its Canadian symbol FVI.  Its silver purity collapsed from 62.2% a year ago in Q3’20 to just 25.5% last quarter!  Some years ago because of the challenging economics of silver mining, Fortuna chose to diversify into gold.  So it developed and built its own gold mine, which started producing in Q4’20.  Then in Q2’21 Fortuna acquired Roxgold, adding another pure gold mine to its stable.

As Q3’21 ended, Fortuna made a go decision to build a third gold mine.  That is expected to go live by mid-2023.  So one of the past purer major silver miners will have two silver mines and three gold ones going forward.  Incidentally Fortuna’s stock price crashed in mid-November after permitting problems at a Mexican silver mine due to government corruption!  If not resolved, Fortuna could be down to a single silver mine.

While these traditional major silver miners mostly remain good investments and trades, their leverage to silver-price moves is really attenuated as they increasingly become primary gold miners.  There are some smaller up-and-coming dedicated silver miners, but they are much-riskier running single mines without established production track records.  So gaining leveraged silver exposure through miners is getting harder.

In the past 22 quarters, only Q3’19 saw the SIL top 15’s average silver purity exceed 50% at 52.0%.  That metric was mostly considerably-lower before and since, hitting a trough of just 34.3% in Q2’20.  While the mix of miners’ quarterly sales from gold and silver changes with prevailing prices, silver purity has to keep grinding lower on balance with silver miners’ investments increasingly focused on building or buying gold mines.

Long-term silver-stock price levels ultimately depend on miners’ profitability, which is directly driven by the difference between prevailing silver prices and silver-mining costs.  In per-ounce terms these are generally inversely proportional to silver production.  That’s because silver mines’ operating costs are largely fixed during planning stages.  Their designed throughputs limit the amounts of silver-bearing ore they can process.

That doesn’t change quarter to quarter, and requires about the same levels of infrastructure, equipment, and employees.  The only real variable is the ore grades run through the fixed-capacity mills.  Richer ores yield more silver ounces to spread the big fixed costs of mining across, lowering unit costs which boosts profitability.  The SIL top 15’s lower silver output should’ve driven modestly-higher costs in Q3, but they soared!

Cash costs are the classic measure of silver-mining costs, including all cash expenses necessary to mine each ounce of silver.  But they are misleading as a true cost measure, excluding the big capital needed to explore for silver deposits and build mines.  So cash costs are best viewed as survivability acid-test levels for the major silver miners.  They illuminate the minimum silver prices required to keep the mines running.

Average cash costs reported by the SIL top 15 in Q3’21 blasted 50.2% higher YoY to $10.50 per ounce!  That was just pennies shy of a new 22-quarter high.  That wasn’t skewed by a single outlier either, with the majority of these silver miners disclosing cash costs seeing massive 50%+ jumps.  Lower-grade ores, raging inflationary pressures from central-bank money printing, and various mine-specific factors played roles.

All-in sustaining costs are far superior than cash costs, and were introduced by the World Gold Council in June 2013.  They add on to cash costs everything else that is necessary to maintain and replenish silver-mining operations at current output tempos.  AISCs give a much-better understanding of what it really costs to maintain silver mines as ongoing concerns, and reveal the major silver miners’ true operating profitability.

Ominously the SIL top 15’s AISCs skyrocketed 64.0% YoY in Q3’21 to $15.78 per ounce!  That was an ugly major new high in the 22 quarters I’ve been furthering this research.  Pan American Silver reported a staggering 171.2%-YoY moonshot to $16.30, but the main culprit was First Majestic Silver.  Its AISCs last quarter doubled, soaring 100.5% YoY to $19.93!  Interestingly shifting into gold caused that massive jump.

First Majestic still reports in silver-equivalent-ounce terms, where gold production is translated into silver monetarily.  That pure gold mine this company just bought was wildly-expensive in its initial quarter, as capital was poured in to start optimizing it.  Its cash costs and AISCs in Q3’21 were crazy-high at $1,735 and $2,286 per ounce!  For comparison the GDX-top-25 gold miners averaged just $746 and $1,085 in Q3.

First Majestic says those extreme gold-mining costs resulted from capital projects, and will soon come down.  But how fast and how much remains to be seen.  Another factor driving these soaring SIL-top-15 AISCs was this ETF’s changing rankings.  A year ago in Q3’20, Chinese miner Silvercorp Metals was included with low $6.99 AISCs driven by huge lead and zinc byproducts.  SVM fell to 16th place this year.

Despite those sky-high all-in sustaining costs, the silver miners remained quite profitable as an industry.  While silver fell sharply in Q3’21, it still averaged an excellent $24.25 which merely edged 0.6% lower year-over-year.  Subtracting out those $15.78 SIL-top-15 average AISCs still leaves a healthy sector-earnings proxy of $8.47 per ounce.  Though that plunged 42.7% YoY, it still remained on the higher side historically.

That broke an amazing seven-quarter streak where silver-mining profits surged-to-soared year-over-year.  They peaked at $14.77 per ounce in Q3’20, thanks to the lowest average AISCs in the past 22 quarters of just $9.62 per ounce.  But Q3’21’s $8.47 profits were still the fifth-highest seen during this research project.  In fully 12 quarters ending in Q2’20 before profits exploded, this metric averaged just $3.82 for the SIL top 15.

So despite soaring AISCs, the major silver miners are still earning good unit profits.  Those should resume growing in coming quarters.  Miners’ reports generally expected AISCs to retreat back towards more-normal levels, despite the inflationary pressures driving up all kinds of mining costs.  And higher prevailing silver prices are likely as gold’s secular bull keeps marching higher following the Fed’s colossal money printing.

The SIL top 15’s hard accounting results reported to securities regulators were generally weaker in Q3’21.  Total revenues surged 14.1% YoY to $6,341m, but that is heavily skewed by Korea Zinc.  It is a giant base-metals smelter in its namesake country, and has no place in a “Silver Miners ETF”.  I’ve been railing against its inclusion for years, but it is likely hard to find a suitable replacement with silver stocks so rarefied.

Just 19.5% of Korea Zinc’s Q3 revenues came from selling smelted silver, and its sales soared 25.1%.  Excluding that odd company from Q3’20 and Q3’21 totals, the rest of the SIL top 15 saw revenues grow 9.4% YoY to $4,259m.  That makes sense with gold production surging 11.8% while silver’s fell 3.2%.  Unfortunately the bottom-line net profits looked far worse, reflecting Q3’s challenging operating environment.

The SIL top 15 earned $283m last quarter, which plunged 45.2% YoY!  Just like that unit-earnings proxy based on average silver prices and AISCs, those were the lowest accounting profits in five quarters.  If Korea Zinc is again pulled from both quarters, silver-mining earnings looked even uglier plummeting 70.3% YoY to just $111m!  I didn’t see any major noncash losses flushed through income statements skewing that.

The silver miners’ operating cash flows generated last quarter looked similar, collapsing 77.0% YoY to $334m among the SIL top 15.  But that was heavily distorted by one extreme charge.  Peru’s endlessly-struggling Buenaventura reported a colossal $544.2m cash expense of “Payments for tax litigation” in its OCFs!  Pulling out BVN from Q3’20 and Q3’21 yields total OCFs of $798m, down 41.5% YoY in line with profits.

But despite much-lower operating cash flows generated, these silver miners’ collective cash treasuries still soared 66.4% YoY to $5,703m.  So they are flush with cash if they want to buy new projects, mines, or companies.  Odds are any acquisitions will be heavily gold-centric, further shifting these gold-and-silver miners’ production mixes to the yellow side.  Even at these high silver prices the economics of gold are better.

On the conventional-valuation front, these SIL-top-15 silver miners averaged lofty 74.9x trailing-twelve-month price-to-earnings ratios in Q3’21.  Thankfully that crazy-expensiveness came from three of these stocks with extreme 100x+ P/Es.  Excluding them, the rest of the SIL top 15 with earnings averaged cheap 18.8x TTM P/Es.  So the silver stocks are mostly-undervalued, with some real bargains in their ranks.

Overall it was kind of a meh quarter for silver stocks, nothing exciting.  I own a third of these SIL-top-15 companies as trades and/or investments, and am still enthusiastic about that subset.  But even the better major silver miners are mostly primary gold ones now, trading more in line with gold stocks than silver prices.  That yellowing trend will likely persist unless silver shoots stratospheric and stays there for years.

In the decades I’ve been studying and trading silver stocks, their allure came from being high-octane bets on higher silver prices.  But speculators looking for extreme upside potential are now migrating into the crazy cryptocurrency realm, where gains dwarf anything ever before witnessed.  Crypto has cast such a long shadow that silver will struggle to emerge from it as a preferred speculation, especially among younger traders.

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The bottom line is silver miners enjoyed a solid-but-not-great third quarter.  While prevailing silver prices remained high, mining costs soared on lower ore grades and inflationary pressures.  That really pinched earnings, although they were still good compared to recent years beyond this past one.  Profits have a lot of potential to surge as costs are reined back in and silver powers higher on balance with gold’s secular bull.

But the ranks of primary silver miners are still rarefying as they continue diversifying into gold.  Most of the traditional larger silver stocks have already transitioned into primary gold ones.  While the economics of gold mining are superior, yellowing silver stocks are much-less-responsive to silver price trends.  They increasingly trade just like gold miners.  That along with crypto competition is tarnishing their speculative allure.

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