Monday, March 27, 2017

Copper - Small Speculators Are Still Overly Optimistic About Copper Prices

Not many analysts, if any, bother about the so-called small speculators. However, in my opinion, the Commitments Of Traders (COT) reports on this class of investors deliver quite important information about the state of the futures markets, for example, the copper futures market.

How do I define the so-called "small speculators"? Generally, according to the COT reports, there are three groups of investors:
  • big speculators (mainly hedge funds)
  • commercial traders (mainly investment banks)
  • small speculators - the traders not classified as big speculators or commercial traders

I calculate a position held by these traders as:

  • net position held by big speculators plus net position held by commercial traders
  • then the above calculated sum has to be rewritten with the opposite sign

Let me take copper futures as an example. As of March 21, 2017:
  • big speculators held a net long position of 21,670 contracts, which may be written as +21,670 contracts
  • commercial traders held a net short position of  25,857 contracts, which may written as -25,857 contracts
After summing up these two figures I am arriving at minus 4,187 contracts. After changing a minus sign into a plus sign I arrive at plus 4,187 contracts - that is a net position held by small speculators.

Now, look at the chart below:

The chart shows net positions held by small  speculators in copper futures, applying the above discussed formula. Note that when small speculators are overly optimistic on copper prices (red circles) the prices of copper print local tops. It means that a position held by small speculators may be considered as a nice contrarian indicator. Practically, any position above 4 thousand contracts may be regarded as overly optimistic.

Last time the small speculators were overly optimistic was during the first week of March, when a net long position held by these traders was standing at 6,650 contracts. Since that time copper prices have retreated by around 3% but it looks like the pattern is still bearish for copper prices in the short - term (small speculators still hold quite a large net long postion of 4,187 contracts).

However, in the long-term I am bullish about copper prices so I believe that each strong correction should be regarded as a buying opportunity.

Sunday, March 26, 2017

Precious Metals Market - A Long Term Picture

From time to time it is very helpful to look at the market in the long-term. Let me show a popular ratio of Silver / Gold:


The lower panel of the chart shows the ratio of Silver / Gold prices and the upper panel shows gold prices, starting from 2002 when the current long-term bull market in precious metals had started.

The green area on the lower panel indicates long-term buying opportunities for gold, silver and precious metals stocks. On the other hand, the red area depicts selling opportunities.

Now, it looks like we are at a very early stage in the current bull run.

Friday, March 24, 2017

The Chinese Are Cutting Their Silver Stakes But JP Morgan Is Still Increasing Its Holdings

For the last three weeks the Chinese have been cutting their silver holdings.

According to the Shanghai Futures Exchange (SFE), the amount of silver held at this entity decreased by 181 tons (5.8M ounces). It looks like the highest Chinese demand for silver is around Y110 (Yuan - the Chinese national currency) per ounce:

On the other hand, JP Morgan is still accumulating silver (no matter at what price):


Thursday, March 23, 2017

Endeavour Silver - Supplement

Yesterday I published an article on Endeavour Silver (EXK) (link). In this post I would like to publish a short supplement.

First of all, look at the chart below:

Usually, when gold / silver prices go down a mining company delivers lower cash flows from its operations (lower metal prices = lower revenue = lower cash flow from operations). And vice versa.

Until 2014 Endeavour was no exception to this pattern. However, in 2015, despite lower prices of silver, the company was able to deliver higher cash flow.

Why? Because in 2015 Endeavour cut its production costs by 20% and silver prices realized by the company decreased "only" by 15.8%.

Then, in 2016 the situation changed. Endeavour once again was able to cut its costs but the company produced and sold much less silver and gold than in 2015. Hence, lower cash flow from operations (excluding working capital issues). 

Why did the company produce less metals? Here is an excerpt from the 2016 Outlook, page 30:

Well, I am not satisfied with this explanation. What is more, seeing higher prices of silver and gold, Endeavour updated its guidance (higher production) in middle 2016 but the actual production was nevertheless much lower than in 2015.

Now, according to the 2017 Outlook, the company wants to increase its production from 5.4M ounces in 2016 to  5.5 - 6.0M ounces of silver this year. The problem is that the entire growth is going to be attributable to the Guanacevi mine, the smallest but also the best operation in the company's portfolio.

It seems that other mines (Bolanitos and El Cubo) are simply not able to deliver economically viable production in larger quantities.

Wednesday, March 22, 2017

Eric Sprott Increases Its Stake In Metanor

Eric Sprott, a notable Canadian resource sector investor, took part in the last company's offering. Now he holds 81.3 million shares of Metanor and 51.3 million warrants (each warrant entitles to acquire one Metanor share for a price of $0.09 until March 2019).

If all warrants were exercised, Mr. Sprott would control 19.5% of the company. Eric Sprott started investing in Metanor last year. The current acquisition means that he has increased its stake in the company.

Interestingly, Mr. Market seems not to spot this event. Metanor shares are trading at C$0.06, which is the price at which the last offering was conducted.

I discussed Metanor two times at this blog: here and here.

Tuesday, March 21, 2017

Oh Fortuna

Yesterday Fortuna Silver made an astonishing annoucement. Let me cite the most interesting part:

"As part of a review by the staff of the United States Securities and Exchange Commission (the "SEC") of the Company's Annual Report on Form 40-F for the year ended December 31, 2015, the SEC has provided comments on the Company's use of inferred resources in its audited financial statements for the calculation of depletion expenses (the "SEC Comments"). The Company considers the use of its inferred resources in the calculation of depletion expenses to be appropriate under IFRS and consistent with the practice of other Canadian mining companies. However, until the SEC Comments are resolved, the Annual Financial Documents cannot be finalized"

It looks like the company was calculating its depletion cost using inferred resources. Interestingly, Fortuna claims that everything is alright but is it?

Here is an excerpt from the company's 2015 Annual Report, page 11:
"Costs of producing properties are amortized on a unit-of-production basis over proven and probable reserves and the portion of resources expected to be extracted economically"
Maybe I am blind but there is nothing about inferred resources. To remind my readers - according to the Canadian Institute of Mining (CIM):
"An Inferred Mineral Resource is that part of a Mineral Resource for which quantity and grade or quality are estimated on the basis of limited geological evidence and sampling. Geological evidence is sufficient to imply but not verify geological and grade or quality continuity.
An Inferred Mineral Resource has a lower level of confidence than that applying to an Indicated Mineral Resource and must not be converted to a Mineral Reserve. It is reasonably expected that the majority of Inferred Mineral Resources could be upgraded to Indicated Mineral Resources with continued exploration"

In other words, inferred resources are that part of a mineral resource which cannot be converted into reserves, is not economically viable and is not "the portion of resources expected to be extracted economically".
Simply put, inferred resources are just a dream that may become reality in the future (rather distant future). What is more, converting inferred resources into reality definitely takes time and a lot of money but the final result may be a complete fiasco.
Summarizing - in my opinion, inferred resources cannot be taken into account when calculating depletion.
The problem is that mining companies do not disclose how they calculate depreciation of their mineral properties (where depletion accounts for the biggest part of this cost). Who knows, maybe Fortuna is not just an exception - the company states that its practises are: "consistent with the practice of other Canadian mining companies". By the way, I would like to know which companies calculate their depletion in the same way as Fortuna does... 
Now the question is what if the SEC is right? Well, higher depletion means lower taxes (higher expenses = lower taxes). What is more, if the company has been calculating its depletion incorrectly for many years it would have to pay the taxes due plus some fines. Next, it would have to recalculate its past financial statements. Many problems ahead.
I hope Fortuna is able to explain everything and focus on its business (any dispute with the taxman is time, energy and money consuming)....

Monday, March 20, 2017

Mineral Drilling Sector - Another Buying Opportunity In The Making

Since February 2017 the stocks of mineral drilling companies have corrected by around 16%, on average.

The chart below shows the so-called DRILL Index, an index created by the author of this site and replicating the share performance of the following drilling plays: Energold, Major Drilling, Orbit Garant, Geodrill and Capital Drilling.

For comparison reasons, in the lower panel of the chart I have plotted the price action of a broad precious metals stock market (represented by GDX):

First of all, note that since the summer of 2016 the DRILL Index has been much stronger than GDX. Despite GDX showing lower values than those printed in August 2016, the DRILL Index is still above the levels recorded last summer.

Further, the DRILL Index is once again close to its strong support (the green line on the upper panel of the chart). That is why I think the drilling companies present another interesting buying opportunity.

Apart from that, drilling companies are quite cheap now. Let me show two popular valuation measures.

The first one is a ratio of Enterprise value / EBITDA:

And the second one is a Price / Book Value ratio:

In my opinion, two companies are especially interesting: Geodrill and Capital Drilling. Both drillers are very cheap (EV / EBITDA ratio below 5) and operate mainly in Africa (Geodrill exclusively in this region) - the place where many decent miners develop or explore gold properties. 

Finally, let cite the Chairman of Capital Drilling:

source: Capital Drilling 2016 Annual Results, page 5