When Will Silver Stocks Catch Up to the Silver Price?

Why is there a lag between the silver price and silver stocks?

During a presentation at the Vancouver Resource Investment Conference (VRIC), held from January 25 to 26, Peter Krauth, editor of Silver Stock Investor and Silver Advisor, looked at the performance of silver stocks relative to the price of physical silver, honing in on silver-focused exchange-traded funds.

“Over the last five years, silver has actually doubled the return of the silver stocks. Normally they should be doubling the silver price," he elaborated to INN on the sidelines of the conference.

"So we actually have had negative leverage in silver stocks versus silver. If you look back over one year, two years, we're essentially even. You've gotten no reward for taking on additional risk by being in the silver stocks."

Why are silver stocks, particularly those on the SILJ, lagging behind the performance of the physical metal?

Krauth explained that valuation models for these stocks are still factoring in silver prices at US$25 to US$30, even though last quarter the price was averaging around US$70 per ounce. “They essentially almost all need to be revalued because silver is so much higher, and that hasn't happened yet,” he said.

Steve Barton, host of In It To Win It, agrees with that assessment. “A lot of analysts are still using silver prices sub-US$50 to do their calculations for the next quarter. This is such a tiny market — this is our whole world, but this is just a blip on the screen of a lot of Wall Street guys, right?” he said in a January interview with INN.

“I think they're going to have to redo their calculations for gold and silver miners.”

In another INN interview that same month, Steve Penny, founder of SilverChartist.com, shared that many silver-mining companies hedge their production, meaning they use financial contracts to secure a set price for their future mined silver. This allows companies to protect their profit margins in case the silver price suddenly drops. Many are probably locked in at silver prices that are now much lower than the current spot price for the metal

“That caps their earnings. Well, the good news for speculators, investors and mining stocks is that those hedges expire,” said Penny, who believes that the relative outperformance of silver stocks to the silver price will “kick in soon."

When will silver stocks catch up to the silver price?

Penny is looking for those hedges to expire over the first few quarters of the year.

“Then that's where these mining stocks, the profits are just going to go through the roof. I mean, even if we pull back to the mid US$60s — not expecting that — but even if that were to happen, these mining stocks are not pricing in US$60 silver. They're still pricing in sub-US$50 silver. So a lot of upside potential here for the mining stocks,” he said.

Barton is also looking for a move sooner rather than later, especially with earning calls coming up.

“I think we have a catch-up trade coming. I think it's coming soon. So if no one has taken advantage of this yet, I think you need to act, like now,” said Barton, who later added, “Assuming the silver price could stay above, you know, US$75 an ounce or so, that should blow out expectations. And I think it'll be a really nice trade. I really do.”

But that won’t be the end of the party for silver. Krauth sees strong potential over the next two or three years for a “dramatic run” for the silver sector. And like his peers, he sees that run starting soon.

“I think what we're going to see is over the next few quarters, as those projects, producers, cashflows, get revalued at higher input prices, we're going to see the profit margins really explode and expand,” he said. “We're going to see when those numbers get reported, the market is going to start to appreciate that and start to rerate a lot of these stocks.”