Silver Wheaton Corp. (USA) (SLW), Yamana Gold Inc. (USA) (AUY): Why I’m Buying Mining Stocks

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It’s been a pretty good year for my portfolio for two particular reasons: The stock market rally has been practically unstoppable, and I’ve remained diversified throughout the past couple of years, which has certainly helped spread around my risk and reward.

One area, though, that has been a chronic underperformer for upwards of the past year has been mining stocks. It really doesn’t matter where you look: gold, silver, platinum, palladium, copper, molybdenum, and coal — all down across the board. You’d think that a growing U.S. economy and improving global outlook would help these mined metals and commodities from a demand perspective, but that just hasn’t been the case. Gold and silver are both in bear market territory, while coal has had trouble gaining traction next to cheap natural gas prices.

But I have a surprise for you: I’ve been buying mining stocks recently and adding them to my watchlist with regularity, as I see unparalleled value in the sector. Here are a handful of the reasons that persuaded me to take the dive, as well as a few miners on my radar.

Where’s the beef?
First, where’s the beef, Mr. Market? According to Thomson Reuters, as of last week 451 of the S&P 500‘s components had reported earnings for the quarter, with 67% topping EPS expectations compared with the historical average of 63%. That sounds fine until you realize that only 47% topped revenue expectations, compared with 62% historically. This is a clear-cut signal that cost-cutting and not top-line growth is what’s driving results. To me, that would indicate that this rally is unsustainable and that metals like gold and silver would provide a great hedge against potential downside in the indexes.

In this space, I continue to keep a watchful eye on Silver Wheaton Corp. (USA) (NYSE:SLW), which is a royalty interest company that negotiates long-term deals with silver and gold miners. By giving these miners cash upfront, Silver Wheaton Corp. (USA) (NYSE:SLW) is locked into paying a low, often lifetime, cost for the mined metal while excluding itself from being responsible for any maintenance or upgrade costs. With some of the most delectable margins in the industry — even after a 55% tumble in spot silver from its highs — and at 11 times forward earnings, which is the lowest level I can ever recall, it’s on my probable-buy list.

They can cut costs, too!
Secondly, keep in mind that miners understand how to cut costs as well! With gold prices hitting a record high last year, many miners had been scrambling to expand capital expenditure budgets to take advantage of these prices. When the bottom fell out of gold prices, many of these miners were caught with their pants down, proverbially speaking, and forced to take large asset writedowns because of the growing costs to build out a mine versus the shrinking margins associated with falling metals prices. However, there are plenty of miners to consider that will see lower capex spending in the immediate future.

One name I’ve been considering here is Yamana Gold Inc. (USA) (NYSE:AUY) which is already the gold sector’s leader in lowest cash operating costs, at $383 per gold-equivalent ounce, or GEO, in its most recent quarter. Yamana Gold Inc. (USA) (NYSE:AUY) has plans firmly in place to lower its GEO by up to $100 per ounce by as soon as mid-year. These plans entail curbing capital expenditures that aren’t cost effective, continuing with the automation of certain mining operations, which will lower long-term costs, and slicing administrative expenses. Yamana Gold Inc. (USA) (NYSE:AUY) is now valued at less than 10 times forward earnings and is looking more attractive by the day.

Supply and demand still rules
Regardless of what you might think, another factor worth considering is that supply and demand is ultimately what drives these miners and spot metal prices. Silver is often used as an electrical conductor, while copper has an abundance of uses, ranging from a strengthener in construction to electrical conduction. One of the biggest consumers of copper is China, and the last time I checked, GDP growth, while below the 30-year average of 10%, was still a robust 7.7% in the first quarter.

One name here that I have aggressively purchased in my portfolio is Thompson Creek Metals Company Inc (USA) (NYSE:TC). Thompson Creek Metals Company Inc (USA) (NYSE:TC) had been known exclusively as a molybdenum miner in the past, but is set to open its Mt. Milligan mine in British Columbia by August. This mine contains some 2.1 billion pounds of copper and 6 million ounces of gold and will sport a mine life of 22 years while giving Thompson Creek Metals Company Inc (USA) (NYSE:TC) the diversity it’s lacked in the past. The gold, of which a 52.25% interest was sold to Royal Gold, Inc USA) (NASDAQ:RGLD) in exchange for cash, will act as a byproduct reducing cost that’ll should make Thompson Creek Metals Company Inc (USA) (NYSE:TC) one of the lowest-cost copper producers around.

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