I recently wrote about the silver squeeze which was being hyped all over social media and gave my opinion that it wouldn’t play out as people expected, and although we might see a brief spike off the back of all the publicity, we weren’t going to see the silver derivative shorts crushed overnight. I was right. It ended up playing out pretty much as expected, with a brief spike on the Monday but then the selling via derivatives took over again. The physical supply squeeze just didn’t have the impact that many expected it to, though I do see silver going higher over the next few years, even if just based around the industrial supply and demand dynamics and completely ignoring the investment demand side of things.
I’d highlighted Fresnillo (FRES) as worth a quick trade last week to take advantage of the silver price movement, given that this miner is unhedged and offers a leveraged trade on the commodity price movement but it is far more than just that and is worthy of consideration as a longer term investment. I last mentioned this Mexican silver and gold miner during the ShareProphets online investor show last May, and at the time the shares were trading at 700p, so it has had a good ride since then, and has traded at roughly double that price level at times last autumn. The share price has now pulled back to around 1030p, and prior to having a bit of a rally on all the silver squeeze nonsense, it had been showing some signs of weakness following the publication of its latest production update for the last quarter of 2020. The latest production levels were actually in line with management expectations, with 13Moz of silver for the quarter and taking the annual total to 53.1Moz. With gold well up on the prior quarter at 215.6koz, although down by 7.8% on the same quarter in 2019, and down 12.1% annually to 769.6koz. The outlook for 2021 wasn’t as good as people may have been expecting, although given the Covid situation in Mexico and the delays that caused to some of the planned work on the development of the Juanicipio mine, plus delays to the start of operations at the Fresnillo pyrites plant, it shouldn’t be all that surprising. So silver output for 2021 is expected to be 53.5 to 59.5Moz. Gold forecast isn’t brilliant either for this year, with just 670 to 725koz expected due to a land slide at Noche Buena limiting access to the higher grade parts of the mine and causing a change to the plan. It really all comes down to whether or not you believe that these are just temporary issues and are largely part of the mining plan, or are a sign of wider problems and a trend which will continue. Personally I am happy to view it as the former and think that in years to come we will see a return to higher grades and levels of output.
The company didn’t seem to have too much of an issue recently when it came to refinancing debt either, having completed an $850 million bond offering at a coupon of 4.25% and due date of 2050, with the proceeds being used to settle $487 million of the $800 million 5.5% 2023 notes, via a tender offer. Financially, it is hard to gauge exactly where the company is, as the last financials are for H1 2020, but despite very low silver prices for part of that period it still managed to generate $242 million of free cash flow, and make a post-tax profit of $56.5 million. That may not sound particularly impressive for a company valued at nearly £7.6 billion, but given all that was going on - including the local currency plummeting against the Dollar and having a big negative impact on that profit - it was hardly a disaster, and when you consider the level that both silver and gold have traded at in the latter half of 2020, the full year results should be far more impressive, even allowing for production not being quite as high as it should be. I also suspect that we may well have seen Fresnillo revert back to a situation where the majority of its revenue comes from silver – as in 2019 53% of it had come from gold, despite the company mostly being viewed as a silver miner. Lower output and mining lower grade areas might not necessarily prove to be a bad thing either for the future years, if those higher quality zones now end up being mined whilst commodity prices are substantially higher. Overall, I see a good chance of further strength for both metals for the foreseeable future, and a corresponding rise in the share price of Fresnillo, certainly enough for me to class it as a strong buy down at this level, either with a view to cashing in if precious metals go on a run upwards or with a longer term view over the coming years. The main reason I don't own any myself currently is that I tend to trade silver directly, but I'll certainly be watching this closely with a view to maybe a longer term position.
Filed under: Fresnillo, Harcus Parker Neil Woodford, Manolete, Amino Technologies, gold
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