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Silver, in modern times, has had difficulty shaking off its “Cinderella” image. The total value of the silver bullion market is a mere 10% of the value of the gold market and thus of limited economic significance. The silver market is currently subject to major structural changes in both demand and supply.
Goldfields Mineral Services estimates that current world silver bullion stocks of coins and silverware stand at a mere 400 million ounces. By the end of 2008, world government inventories could well stand at or close to zero if present trends continue. Although a large percentage of production is relatively insensitive to the price of silver, as it is a byproduct of base metal mines, the amount of scrap offered for sale can still be very price elastic. For instance in 2003, as the price of silver surged, scrap recycling increased exponentially to 16 million ounces (a gain of 235%).
SILVER IN HISTORY
Historically, silver has seen a much greater usage in coinage than gold. Its greater availability and lower value made it a more practical commodity to use for commercial transactions. Most countries were on some form of commercial silver standard until the late 19th century. The large increase in physical gold production that came with the gold rushes enabled gold to replace silver as the universal “currency coinage”.
The majority of the precious metals plundered and mined by the Spanish took the form of silver. Gold was too expensive and difficult to mine. Most of the gold came from alluvial deposits or as a byproduct of silver mines in Mexico and Peru. So much silver was exported to Europe that its value, once comparable to gold, declined to 1/15th of the price of gold. Spanish silver ended up spread across Europe as Spain paid off its large war debts to foreigners. It has been estimated that 95% of all the bullion exported from South American to Europe was silver. Between the years 1500 and 1800, an estimated 100,000 metric tons was shipped from Central and South America, creating inflation in 16th and 17th century Europe.
Until the mid16th century, silver had been rare in Europe. Once it became abundant, it was used in furniture and tableware, as well as being exported to Asia in exchange for spices and silks.
Between1545 and1546, silver was discovered in Peru and Mexico. Until then, the Spanish had been content to steal it from the natives; from then on mining became the main source.
Prior to World War II, after coinage the major consumption of silver was for jewelry and silverware. Technological development and advances in electronics and photography led to new consumer silver usage products in the post war period. This increased demand was not met immediately by an increase in mine supply. In the early1950s, as a result of the1946 Silver Act, the U.S. Treasury was allowed to buy and sell unlimited amounts at between $0.91 and $0.95 per ounce. Consequently, an arti- ficial lid was placed on the price of silver, as producers sold to the Treasury.As industrial demand grew, the Treasury became the main source of supply. Low silver commodity prices discouraged the recycling of silver scrap and led to the closing of marginal silver mines.
Since the end of World War II, silver consumption has gone from the dining room table to the medical operating table to industry and technology. By far, the biggest damper placed on silver demand has been the decline of silverware for table dining. Between1973 and1990 alone, tableware demand declined from 22% of total demand to a mere 2.4%. As an ornament, it has been replaced by ceramics, glassware and stainless steel cutlery.
Silver film in medical imaging has been replaced by digital electronics, in newspapers by plastic plate, in mirrors by aluminum and rhodium and silver plates in surgery by tantalum.
Annual demand for silver usage in photography is currently declining at a rapid rate as digital cameras replace film.
CHINA AND THE SILVER BULLION METALLIC STANDARD
In the 1930’s China was the only major country left on the silver standard. Early Chinese paper money grew out of the desire to do business transactions without having to transport hundreds of thousands of kilos of silver coins over long distances. Today the Chinese word for bank literally means “silver movement”.
During the Ming Dynasty metallic coins and raw bullion were replaced by paper fiat currency.
As silver lost its monetary value in the post 1870 period, the 19th Century prevailing gold/silver ratio of 16:1 went as high as 76:1 lbs. In 1933 there was a decline of 5:1 in the value of silver to gold spanning a 60 year period. In 1935 the US government brought silver at above market prices in a program to bail out silver producers. As the US government purchased silver at artificial prices, silver was exported from China to the USA leading to Chinese domestic deflation.
THE US GOLD/SILVER BI-METALLIC STANDARD
For centuries silver coins were used for every day commerce as gold was too scarce and valuable for the purchase of everyday items.
For most of the19th century, the U.S. dollar was backed by 22.5 grains of gold or 371 grains of silver (1 grain = 0.065 grams).
Following the Panic of 1873, there was a strong populist movement throughout the Midwest and South USA centered on the Greenback Party to inflate the economy, mostly amongst farming communities in an attempt to inflate the economy by changing the silver gold ratio so as to reduce farmers indebtedness.
The political battle between the “gold bugs”, primarily North Eastern bankers and “free silver” advocates, mostly creditor indebted farmers in the Midwest and the South, was eventually terminated once the White House was in the hands of the Republicans.
In 1900 Frank Baum published the wonderful Wizard of OZ which was interpreted by many critics as satire on the “gold bug” community with the scarecrow representing the rural farmer and the wizard the head of the New York Reserve Bank. The debate over scarce gold and abundant silver was essentially made obsolete by gold discoveries in South Africe, Alaska and Colorado.
SILVER DEMAND AND SUPPLY
Currently, 32% of silver is used in jewelry fabrication, 25% in photography and 40% in industrial manufacturing. Ever since 1990, the demand for silver in fabricated products has exceeded new mine supplies. The 1990 inventory surplus of over one billion ounces has now been worked off, but one needs to bear in mind that India has 20 years of estimated annual supply above ground in the hands of individual investors.
In January 2000, the silver market was fully deregulated in China. This led to increased demand from the industrial electronics and chemical industries. Despite the decline in photographic usage, total Chinese fabrication demand in 2003 was up 16% to total 860 million ounces. The effect of the decline in photographic usage is essentially a short-term factor as 80% of the silver used in film is recycled. The decline in silver film usage will, however, mean that tourism is no longer a major factor in the seasonal supply/demand equation for silver.At present, 30% of world supply is from recycling (mostly from photography), which we would expect to decline over the next 5 to 10 years.
SILVER AND INTEREST RATES
Ever since silver has been demonetized and commoditized, its price and behavior have been closely allied to the expansion and contraction of the economy. It has become more of an industrial material than a store of value. Gold bullion, on the other hand, has its short-term price determined and driven by monetary factors.
SILVER MINES AND MINING
Less than 30% of mined silver comes from ores where the prime or major mineral is silver. The rest comes from:
Lead/Zinc deposits: 31%
Copper /Zinc deposits: 25%
Gold/Zinc deposits: 14%
Coeur D’Alene and Hecla are the only two major primary silver producers in the U.S.A. Less than 25 major or pure silver deposits of any magnitude exist in the world Pan American Silver has interest in four of these. This leaves two-thirds of the world reserves of silver associated with base metals ore bodies, most of which are at great depths. Most known major silver deposits tend to occur in dry desert areas such as Mexico, Peru, Chile and the U.S. Southwest.
SILVER EQUITIES
Over the past 20 years, silver bullion has been plentiful, causing the commodity to suffer from low prices. As a result, very few silver mines have been profitable. There is an old stock market adage “Buy Scarcity, Sell Surplus.” The fact that profitable silver stocks are rare, gives the surviving silver equities a scarcity value many times their rational economic value. This has always been true of silver equities. A glance at the prices silver equities traded at their peak bears this out:
Hecla Mining: $35 US Equity Silver: $66 CDN
Coeur D’Alene: $36 US United Siscoe: $25 CDN
United Keno: $68 CDN Silverstock: $36 CDN
Sigma Mine: $36 CDN
Only Hecla and Coeur D’Alene are still in operation today.
In the recent precious metals recovery market that began in 2001, Silver Standard, Pan American Silver and Sterling Mines all made exponential moves. Many of the silver deposits have been acquired over the past five year period at a cost close to $0.05 to $0.10 an ounce in situ resources, while the market is placing a value of close to $1.00 per ounce of reserves in market capitalization. Over the past two to three years, several developments by junior and independent companies have occurred to change the scenario of “abundant commodity” and “scarce silver equities”, so that the description of a “profitable silver mine” is no longer an oxymoron.
In recent years a “derivative based” company Silver Wheaton has become a leading silver equity It’s main operating function is to buy silver at a set price for an equity injection to junior and independent companies.
The exploration and development of large low grade gold/silver properties adds a new dimension to silver mining.
SILVER AND GOLD
In 1900, world gold production was 386 tonnes and silver production 540 tonnes. Gold production increased 7.3 times from 1900 to 2003, while silver production increased a mere 3.4 times. Since 1900, there has been a large variance in the ratio of the price of silver to gold, with the silver price ranging from 1/20th to 1/80th the price of gold.
DIAMONDS AND DIAMOND MARKETS
It is estimated that between three and four hundred million women own some form of diamond jewelry. Diamond jewelry sales tend to be six to seven times the value of rough mined diamonds. This is partly due to changing fashions in cutting style and to DeBeers successful advertising campaigns such as, “Diamonds are forever”. The precious stones tend to be consumed with only a small percentage being recycled. Between 1985 and 2000, rough diamond prices increased 5% per annum, substantially outperforming gold and the commodity indexes over that period. During the same period, DeBeers reduced its inventory of rough diamonds in order to decrease debt, in part so as to create money for advertising to overcome the threat of synthetic diamonds (which look so much like the real thing, the naked eye cannot differentiate between them). DeBeers is also anxious to avoid the fate of amethyst, once a rare and precious stone but now regarded as merely semi-precious. DeBeers is currently out of all but emergency stocks and Russia had run out of inventories by early 2000. At their peak, the world’s two largest diamond producing companies were supplying close to $2 billion per annum from inventory, the production equivalent of two to three times the annual output of Canada’s Diavik mine.
Alluvial diamond deposit production, which typically consist of 80% gem quality, were once plentiful, cheap to discover, develop and produce, have declined dramatically in the same way that placer gold deposits were quickly depleted. Between 1960 and 1990, alluvial deposits as a source of world high-carat jewelry-grade diamonds, declined from 80% of total world production to 25%. At the present rate of discovery of only two major diamond deposits each decade
and if we assume close to the 8% increase in demand that occurred between1982 and 2002, then we can anticipate a large impending supply shortage looming.
NATURE OF THE DIAMOND MINING BUSINESS
Diamond mines can be very lucrative, with annual revenues of over $1 billion U.S. and reserves valued at $50 billion for a typical major African deposit. They can also have long lives; some mines have been operating in South Africa for over 50 years and are expected to produce for another 50 years. One mine in Botswana generates $400 million to $500 million per year in profits. Of approximately 4,500 known kimberlite/lamporites occurrences in the world, less than 100 have been mined and less than 30 have ever been significant producers. Today, there are worldwide only 25 major mines and 100 small insignificant ones. As a good general rule, only one in 200 kimberlites are diamondiferous and just one in 20 of these are economic.
Diamonds were discovered before gold in South Africa, with the heavy capital investment needed being supplied by diamond merchants. The discovery of diamonds in 1991 at Lac de Gras, in Canada’s North West Territories, changed the nature of the diamond mining market worldwide. When Ekiat went into production in1998 and later when Diavik started producing in 2002, it catapulted Canada into the position of the third largest diamond producer in the world.
The diamond mining market, once the preserve of DeBeers and the multinational mining companies, was now open to juniors and in the process opened up new regions for exploration throughout the world. DeBeer’s was once responsible for supplying approximately 70% of the market; today it supplies less than 50%.
DIAMOND EXPLORATION
It takes a long time to make and test a discovery. Sampling is time consuming, risky and expensive. Unlike many mineral exploration plays that can last three months to two years, diamond exploration, testing and development can go on for years on end. Like a biotech drug, there is no certainty until the final test results are fully evaluated. It is standard practice to divide the testing of a kimberlite into five distinct phases. Geophysical or geochemical regional search for kimberlites – 8% to12% chanceof success.
More kimberlite targets found indicating a field of them – 15% to 25% chance of success.
Borehole bulk sampling – 30% to 50% chance of success.
Large scale bulk underground sample – 50% to 70% chance of success.
Final or full feasibility stage – 90% to 100% chance of success.
Not until phase 5 is complete can one be sure of the economic viability of the kimberlite. Kennecott, in a joint venture with several Canadian juniors, drilled the Ti Kwi Cho kimberlite in the North West Territories of Canada. The preliminary sample created a great stir with 1.14 tonnes of two to four carats. Plans were then drawn up for both a 200 tonne and a 5,000 tonne sample, which later came in barren at a cost of $15,000,000.
PLATINUM AND PLATINUM GROUP MINERALS
Platinum
All the platinum ever mined could be formed into a cube measuring15 feet by15 feet. Total annual world production is less than four million ounces. Currently, 40% goes into pollution control devices, 20% to industry and 40% to jewelry fabrication (mostly to customers in South East Asia). Platinum use in autoclaves increased 23% in 2003. Japan is responsible for one-third of total world consumption and China represents 25% of the total world platinum jewelry fabrication market. Only 10% goes into the hands of investors. Most platinum is sold on contract and so very little goes into trading markets.
Auto Demand for Platinum
The typical new North American car contains $100.00 worth of platinum. Diesel engine catalytic converters are constructed using large amounts of pure platinum. In Europe, due to high fuel taxes, 40% of all new autos sold are sold with diesel engines The fate of platinum over $1,000.00 an ounce could well end up like palladium, once the favored material for catalytic converters. For years palladium’s price was highly correlated to that of platinum’s price until the price collapsed in 1991 as the Ford Motor Company wrote off its inventory and switched to platinum.
Platinum Group Minerals
Almost 80% of world platinum production comes from South Africa. In 2003, platinum exports from that country exceeded the value of gold exports for the first time.Most North American production is derived as a byproduct of base metals. The only two North American independents, North American Palladium and Stillwater Minerals, are to all intents and purposes the only stand-alone, pure Platinum Group Producers in North America.
In the Southern Hemisphere, Platinum Group Mineral Deposits (PGM) tend to be two-thirds platinum and one third palladium, whereas in the Northern Hemisphere, they tend to be two-thirds palladium and one third platinum.
Platinum demand and supply fundamentals are increasingly being determined by industrial applications, which in turn causes platinum to move before gold in the
economic cycle. In 1978 and 1985, platinum prices outpaced the price of gold by a large margin.
PLATINUM SUPPLY AND DEMAND FUNDAMENTALS
In the five year period to the end of 2003, demand grew 12% while supply grew by a mere 3%. In 2003 scrap sales representaed a mere 10% of supply. As the demand for autoclaves is of recent origin, scrap sales are not yet an important factor in supply. Platinum jewelry fabrication has in recent years become international in scope. At one time Japan was responsible for 80% of total world jewelry fabrication demand but now represents a mere 20%. China imports 25% of the world’s production of platinum, 90% of which goes into jewelry. Fabrication demand in China has been growing at 15% per annum. A large part of this rapid growth can be attributed to the fact that unlike gold bullion, platinum sales were not government regulated.
Reginald W. Ogden
Canaccord Capital Corp.
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This article is solely the work of the author for the private information of readers. Although the author is a registered investment advisor at Canaccord Capital Corporation ("Canaccord Capital"), this is not an official publication of Canaccord Capital and the author is not a Canaccord Capital analyst. The views (including any recommendations) expressed in this article are those of the author alone, and are not necessarily those of Canaccord Capital.
The information contained in this article is drawn from sources believed to be reliable, but the accuracy and completeness of the information is not guaranteed, nor in providing it does the author or Canaccord Capital assume any liability. This information is given as of the date appearing on the article, and neither the author nor Canaccord Capital assume any obligation to update the information or advise on further developments relating to the information provided herein. This article is intended for distribution in those jurisdictions where both the author and Canaccord Capital are registered to do business in securities. Any distribution or dissemination of this article in any other jurisdiction is strictly prohibited. The holdings of the author, Canaccord Capital, its affiliated companies and holdings of their respective directors, officers and employees and companies with which they are associated may, from time to time, include the securities mentioned in this article.
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