Options Trade – Silver Wheaton Corp (SLW)
Wednesday, October 24, 2012

SLW – A Silver Lining For The Portfolio!

**OPTION TRADE: Buy the SLW Mar 2013 40.000 call (SLW130316C00040000) at or under $3.10, good for the day. Place a protective stop limit at $1.40 and a pre-determined sell at $5.00.

by Ian Harvey

October 24, 2012

Introduction

Bearish onslaughts like the ones we saw Friday, and again Tuesday, can wreak havoc on price charts across the board. When numerous sectors breach pivotal support levels on elevated volume, it can inflict damage that takes weeks to recover from.

Although twin precious metals silver and gold fell victim to these plunges, silver mining stocks — as measured by the Global X Silver Miners ETF (NYSE: SIL) — escaped the selling frenzy virtually unscathed. Of the individual constituents comprising the SIL, Silver Wheaton (NYSE: SLW) looks particularly appealing, and has pulled back just enough to make a worthwhile trade.

During the past month, SLW has formed a textbook symmetrical triangle with a couple of accumulation days thrown in for good measure. If it can break to the topside of the consolidation pattern, higher prices should be in the offing.

Silver Wheaton, with more silver reserves than any other company, is the largest silver streaming company in the world. The company does not own or operate any mines; rather, it finances capital expenditure on the front end and then buys the precious metal at fixed low cost through long term contracts with different mining companies. With 16 separate streaming agreements in place, silver equivalent production is expected to grow substantially over the next few years as the silver production from Goldcorp's Penasquito and Barrick's Pascua Lama mines increases. Silver Wheaton's shares are listed on both the Toronto and New York stock exchanges under the symbol SLW.


Earnings

SLW is slated to report earnings on Nov. 5.

SLW reported second quarter EPS of $0.40, and given the higher average of silver prices, we expect Q3 earnings to be sequentially higher. With rising silver prices, SLW gained as much as 48 per cent in the past three months and more than 25 per cent YTD.

Part of the recent surge in share prices can be attributed to the positive reaction of the market to the recent acquisition of Hudbay Minerals. Silver Wheaton closed the deal worth $750m on 28th September 2012.

Silver Wheaton is now entitled to the entire production of two of the HBM's mines. With additional availability of the precious metal, SLW can now take further advantage of the prevailing high prices of silver. Since SLW purchases silver at low fixed prices and has long term contracts, this deal provides it with both upside potential and downside protection.

Financials

Comp Sheet

Silver Wheaton

Pan American Silver (PAAS)

Silver Standard Resources (SSRI)

Endeavour Silver Corp. (EXK)

Bear Creek Mining Corp.

Forward P/E (1 year)

17.01

10.84

22.62

10.14

N/A

PEG ratio (5 year expected)

1

1.5

0.13

N/A

-0.38

Long-term earnings growth rate

23.10%

11.00%

425.00%

 

71.00%

EV/EBITDA (TTM)

16.34

6.96

90.39

10.8

-7.37

Dividend yield

1.00%

0.90%

N/A

N/A

N/A

Payout Ratio

19.00%

4.00%

N/A

N/A

N/A

Share price Performance (YTD)

25.82%

-8.01%

-3.32%

-11.19%

-3.54%

Profit Margin :

73.05%

2.01%

47.71%

19.61%

N/A

Operating Margin :

74.97%

36.10%

-11.30%

33.93%

N/A

SLW has a strong balance sheet and liquidity position with $1.10B in cash against total debt of $64.34m. It reported a profit margin and an operating profit margin of 73 per cent and 75 per cent, respectively, far exceeding its peers.

It is trading at a forward P/E of 17x. It has a significant long term earnings growth rate of 23 per cent, offers a decent dividend yield of 1 per cent and a healthy payout ratio of 19 per cent. Moreover, SLW has outperformed SLV on YTD basis by more than 15 per cent (see chart below). The only downside risk to our thesis is the weakening global economic outlook resulting in subdued industrial demand which will put downward pressure on the stock. However, for long term investors we see great potential in SLW.

Silver Wheaton May Win More Contracts

Silver Wheaton pays less than $4.00 per ounce of silver from gold mining companies such as Barrick Gold (ABX) and Goldcorp (GG).

Below is a three month price history chart comparing the stock performance of SLW, versus ABX and GG.

The company owns purchase agreements on proved and prolific silver reserves, such as Goldcorp's Penasquito mine in Mexico and Pascua-Lana mine in Peru. Silver Wheaton contracts are very profitable and will produce rapid revenue and earnings growth well into the future.

Slower silver shipments caused sales to increase only 3% during the second quarter, while earnings per share declined 5%, worse than expected. Silver Wheaton's silver production increased 10%, but silver prices dropped 24% from a year ago.

The company recently inked a new contract with Hudbay which will add immediate cash flow with future costs fixed at current levels.

Silver Wheaton is in an enviable position to win new contracts at favorable rates when silver prices fall. The company has over $1.1 billion in cash with almost no debt.

Silver Wheaton raised its quarterly dividend to $0.10, which now yields 1.0%. Sales and earnings will likely increase 25% and 29% respectively in 2012.

The lower price of silver and the decline in SLW's stock price offers an excellent buying opportunity. SLW shares are medium risk.

Analysts Opinions

A study of analyst recommendations at the major brokerages shows that Silver Wheaton Corp (SLW) is the #3 broker analyst pick, on average, out of the 50 stocks making up the Metals Channel Global Mining Titans Index, according to Metals Channel. The Metals Channel Global Mining Titans Index is comprised of the top fifty global leaders from the metals and mining sector. The companies listed in the Metals Channel Global Mining Titans Index are not fixed, but instead variable — updating on a continuous basis to reflect the changing market environment with respect to commodity prices, government policy and market volatility.

In forming this rank, the analyst opinions from the major brokerage houses were tallied, and averaged; then, the underlying components of the Metals Channel Global Mining Titans Index were ranked according to those averages.

External Effects

The upcoming EU Economic Summit could affect the forex and commodities markets. The Summit might ease some of the concerns many have in regard to the stability of the European Union. In particular, the Summit might address the debt crisis in Spain and Greece. If Spain makes a formal request for a bailout, that's likely to help rally the euro and, consequentially, pull up the price of silver.

This week the Federal Reserve will convene again for its penultimate meeting for 2012. If the Fed even hints at additional monetary steps it is considering launching in the near future, this could help rally the prices of precious metals.

Therefore, with the drop in share price, and based on the facts above the following options trade is recommended…..


**OPTION TRADE: Buy the SLW Mar 2013 40.000 call (SLW130316C00040000) at or under $3.10, good for the day. Place a protective stop limit at $1.40 and a pre-determined sell at $5.00.



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