Silver Wheaton: Set For More Upside
Oct. 15, 2015 6:43 AM ET | About: Silver Wheaton Corp. (SLW)
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More...)
Summary
SLW shares have shot up over 30% in a month on the back of positive gold and silver pricing trends, but investors can expect more upside.
SLW will benefit from an increase in silver demand due to higher solar PV installations, where silver paste is a key component.
The silver market will witness a deficit going forward due to low capital investments in mines and the maturity of existing mines, leading to higher silver prices.
SLW is in a strong position to benefit from improving silver demand since its streaming agreements will allow it to tap the supply deficit in the end market.
SLW’s valuation is still attractive despite a strong run in the past month, while a PEG ratio below 1 indicates that the stock is undervalued.
The past month has turned out to be outstanding for Silver Wheaton (NYSE:SLW), as the stock has gained more than 30% on the back of a delay in the rate hike by the Federal Reserve, which has led to a positive impact on gold and silver prices. But, if you are thinking that you have missed the bus, then worry not as Silver Wheaton is still capable of delivering more upside going forward due to improving end-market prospects and its own operational improvements. Let's take a closer look.
Better times ahead for silver pricing
As mentioned above, the silver streaming company has gained rapidly in the past month on the back of the Fed rate hike delay. But, beyond this, investors should not miss the fact that demand for silver is rising fast due to its usage in a variety of industrial applications.
For example, silver is a key component in the solar industry as 90% of photovoltaic cells use silver paste. As a result, next year, it is anticipated that 70 million ounces of silver will be used by the solar industry, and this quantity should increase in the long run as solar installations gain steam across the globe. In fact, research agency Frost & Sullivan is of the opinion that global solar power capacity will increase to 668 GW in 2025. In comparison, in 2012, global solar power capacity was just 93.7 GW, indicating that this market will grow at an impressive pace.
Now, as the installation of solar modules increases, silver demand will also increase as the metal is a key component of photovoltaic modules, as stated above. But, at the same time, there won't be enough silver supply in the end market to satisfy this demand. This is because after an increase in silver production for over a decade, production is slated to drop this year due to the maturity of existing mines and a drop in capacity investments due to low silver prices.
In fact, as a result of an increase in demand and low supply, the silver market will witness a deficit in the long run. For instance, the market is expected to see a deficit of almost 60 million tons this year, and the gap between supply and demand will widen going forward. As a result, the price of silver is anticipated to improve going forward, and this will eventually lead to an improvement in its financial performance.
I'm saying this because being a streaming company, Silver Wheaton does not possess any assets. Rather, the silver that it gets is a by-product of other metals, which is why it gets the silver at a low price. Looking ahead, the company's streaming agreements will help it improve its production profile and benefit from the supply deficit in the silver market.
Silver Wheaton's streaming assets will be a tailwind
Silver Wheaton's streaming agreements are expected to deliver approximately 40% organic growth in the next five years. It has approximately 20 operating mines and 7 development projects under its wing that will allow it to achieve this ambitious growth target. More specifically, there are a couple of key mines that will play an important role in driving Silver Wheaton's growth.
For instance, the company is witnessing higher grades at the Peñasquito mine in the second half of the year. As a result of the higher grade ore, Silver Wheaton expects about 7.3 million ounces of silver attributable to the company from this mine.
On the other hand, Silver Wheaton also expects an increase in production from Vale's (NYSE:VALE) Salobo mine in the second half of the year. The company expects attributable average gold production of 140 Koz for the first ten years of the mine life on the back of a capacity expansion. In fact, last quarter, this mine had delivered 27,805 ounces of gold to Silver Wheaton, an increase of approximately 230% from last year, indicating that the capacity expansion is working.
Looking ahead, the Salobo mine will play a key role in enhancing Silver Wheaton's gold production as the company plans to increase the share of gold in its production from 40% last year to 50% in 2019. It expects its gold production to increase from 230 Koz in 2014 to 325 Koz Au in 2019. As a result, Silver Wheaton also stands to benefit from an expected decline in gold supply going forward.
This is because not enough gold discoveries have taken place in the last 20 years. Post 1995, which was the peak year for gold discoveries, miners haven't found enough deposits to replenish their reserves. This is shown in the following chart:
Source: Goldcorp
As we can see above, gold production has declined post 1995 as discoveries have dropped. As such, after hitting peak production this year, gold supplies will also start waning. This will be a tailwind for Silver Wheaton since the company is well-placed to benefit from lower supply in the end market since it has struck agreements to increase production.
The valuation is still favorable
Apart from the above reasons, another factor why investors can still stay invested in Silver Wheaton is because the company's valuation is still favorable. Though the stock might seem expensive at 34.6 times last year's earnings, a forward P/E of 23 indicates that its bottom line performance will get better in the coming year.
Additionally, the PEG ratio is also quite low at 0.75, which further indicates that Silver Wheaton is undervalued. So, due to its impressive growth prospects and attractive valuation, Silver Wheaton will deliver better returns to investors in the long run.
