March 2006 Archives

Kevin Morrison wrote an excellent article in the Financial Times Market Insight: The squeeze is back on the silver market (subscription required).

Morrison discusses the potential effect of the Barclays Global Investors iShares Silver Trust (Silver Exchange Traded Fund ETF). He goes on to write the following.

However, Yingxi Yu, precious metals analyst at Barclays Capital, says so far this month there has been a net purchase of gold ETFs equivalent to 5.74 tonnes of the metal, down from 19.27 tonnes in February, and dramatically down on January’s 87.54 tonnes.

Ms Yu says the five-listed gold ETFs have attracted demand equivalent to about 470 tonnes of gold, or about 12 per cent of annual gold demand. For silver to command the same success, it would need to attract demand equivalent about 110m ounces.

Mr Reade says unlike gold, silver does not have an abundance of above ground stocks - gold inventories equate to just under 40 years of demand and silver equates to less than a year. He says strong demand for silver ETFs would reduce the amount of silver available to lend to consumers or traders, and in turn could push up leasing rates and in turn cause silver prices to move even higher.

“The silver market is not deep enough to withstand a large inflow of investment, making it vulnerable to a potential price spike,” says Mr Reade.

The last portion of the quoted article is important, Mr Reade says unlike gold, silver does not have an abundance of above ground stocks - gold inventories equate to just under 40 years of demand and silver equates to less than a year. Thus, I do not subscribe to the theory that once the ETF is formally approved, the speculative money will leave silver and it will return to its prior price. Instead, I believe that the supply demand picture for silver is becoming more bullish for those holding silver.

Bill Fleckenstein at Fleckenstein Capital, a subscription site, is very bullish on silver. I should note that he is also a director at Pan American Silver Corp. (PAAS) and that I am long PAAS stock.

The Federal Reserve released the FOMC statement indicating that the federal funds rate increased by a quarter point to 4.75%

Many pundits seemed to read from the statement that further increases beyond 5% are likely. I read the statement and am unable to infer anything. To me, it is like looking at an ink blot. You can read whatever you want to read into FOMC statement.

What I find interesting is how much attention is being paid to the FOMC. Before every little tick in oil price was a big deal. Now, nobody cares about oil price. Instead, every little tick in interest rates captures investors' attention. While I obviously do not have any special insights, I think that we are getting very close to the end. I would be surprised to see the federal funds rate continue to go beyond 5.5% because I do think that the rise in commodities will have a damping effect on the economy. And I do not believe that the Fed can control the price rise in commodities, unless it wants to cause a recession. I further believe that the demand from BRIC (Brazil, Russia, India, and China) countries is the key driver for commodity prices. Thus, the Fed will have limited ability to influence commodity prices.

If you bother to read the pundits interpretation of the FOMC statements, you will find that the pundits themselves are all over the map. With this added uncertainty, I doubt that the market will move aggressively in either direction. Many are expecting the market to rally once we get the all clear signal, which in itself is worrying. Others believe that the screws have been tightened too much already and that the economy will begin to slow soon. Others believe that job growth and consumer confidence will continue to propel the economy forward and that rates are appropriate for this stage of the economy. Me, I am just sitting on my hands waiting for clearer signals to emerge.

Richard Lapper and Hal Weitzman in Lima wrote a Financial Times article Peru’s Humala vows heavy mining taxes (subscription required). As the title suggests, Peru might extract higher taxes from mining companies.

International mining companies would face aggressive tax hikes under a government run by Ollanta Humala, the radical nationalist former officer who is the frontrunner in Peru’s presidential race.

The increases would be used to fund a large expansion in public spending, with an emphasis on building roads, bridges and other infrastructure, according to senior economic advisers.

“The extraordinary profits mining [companies] are currently enjoying must be taxed,” said Félix Jiménez, Mr Humala’s top economic aide. “The situation is like in 1973 when oil prices spiked.”

If Peru hikes taxes against mining companies, mining companies might be more reluctant to operate in Peru, fearing that the fiscal regime is fluid and uncertain. Should mining companies avoid or reduce their planned investments in Peru, prices for gold, zinc, copper, silver, lead, molybdenum, and some other metals might increase. In the article, Newmont Mining, BHP Billiton, Southern Copper and Barrick were identified has having significant operations in Peru.

As I have mentioned in other articles, I think most investors in North America do not pay much attention to developments in South America. However, South America is an important contributor to supplying commodities, which are in great demand. Thus, we need to pay attention to their developments.

According to Kevin Morrison in a Financial Times article Silver hits 22-year high after iShares ruling (subscription required), the SEC has approved the Silver exchange traded fund (ETF).

Silver rose to a fresh 22-year high after the Securities and Exchange Commission on Tuesday approved the iShares Silver Trust following weeks of speculation that had helped support the metal.

Silver prices have risen more than 40 per cent since last November when Barclays Global Investors filed its application to the SEC for the share market listing of iShares Silver Trust. The reaction to the approval was muted given the volatility in the silver price over the past three months.

Silver hit a peak of $10.50 a troy ounce, up 15 cents on the day. “In effect, purchasing silver shares will provide investors with a new mechanism to participate in the silver market,” the SEC said. Each silver share would correspond to 10 ounces of silver, it said.

So one key question then becomes, do the speculators who were anticipating the silver ETF sell silver and depress the price or does the silver ETF create a stronger demand for silver and increase the price? My belief is that any selling by the speculators will more than compensated by the buying by the ETF. That said, there could be some spikes in either direction. Another key question is, if buying does outstrip selling, what price will silver rise to? I have no answer to that question, not even a guess. I am just going to wait and see. As an aside, a good website to obtain insights into silver is Fleckenstein Capital (a subscription based website).

On the whole, I believe the silver ETF is a good thing because it allows investors to more easily purchase silver and it allows some funds that were prohibited from purchasing futures contracts to now purchase silver. Now we just have to wait and see how the silver ETF influences the price, if at all.

As a matter of disclosure, I remain long Pan American Silver Corporation (PAAS), which is a silver mining company.

Two very good articles worth reading concerning cable and telco companies are a Financial Times article Battle of the bundle is at the doorstep (subscription required) and a Mark Cuban article Think the Internet will replace TV ? Think again.

Aline van Duyn and Paul Taylor in their FT article discuss the bundling that will decrease the churn rate and increase loyalty.

Steve Burke, president and chief operating officer at Comcast, recently observed that all the telecoms companies in the US combined could offer an integrated three-product bundle to about 1 per cent of the same homes that can get these from Comcast. “We have a real head start...and we’re going to be very aggressive in 2006 and beyond,” Mr Burke said.

Indeed, financial results from cable operators that are ahead of Comcast in rolling out triple-play show why hooking up customers to more than one service is one of the recipes for success. Cablevision, based in the New York region and more usually in the headlines due to the various feuds and strategic U-turns taken by members of its controlling Dolan family, surprised investors last month with the strength of its financial performance. About 24 per cent of its subscribers are triple-play customers, a proportion that analysts expect to grow to 37 per cent this year and nearly 50 per cent in 2007.

The rate at which customers are leaving their traditional telecoms providers has exceeded expectations. Yet bundling reduces the rate at which customers are subsequently inclined to switch services. This improved loyalty can vastly improve the profitability of cable companies: the longer a customer stays, the more they make because the initial costs of installation and marketing are already covered. Importantly, Cablevision has shown it can increase prices for its bundle once promotional offers are over – subscribers paying $115 a month face a jump to $140.

Mark Cuban goes to comment in his blog that the Internet simply lacks the capacity to replace television.

More importantly, in 60% of the country, there are simply no new networks on the horizon, and the existing infrastructure from the telcos – DSL running at speeds of just 1.5Mbs or so – simply won’t be adequate to be considered “broadband” in five years or so. That includes wireless networks, by the way. Current and planned wireless networks – including the over-hyped Wi-Max technology – offer the promise of satisfying today’s definition of broadband, but simply can’t feasibly support the kind of bandwidth required for the kind of dedicated point-to-point video connections that will be required to be considered broadband tomorrow.”

Craig [Moffet of Bernstein Research] is right. The last mile into our homes wont have enough bandwidth to support all that we will want to do via our internet connections at home. There is no moores law for bandwidth to the home. THere is a huge misconception that bandwidth will just continue to experience unlimited expansion for every broadband household. Its what we are used to with hard drives, processors, all technology. It gets faster, cheaper, bigger. Thats not the case for the next decade with bandwidth.

My own impression is that investors are underestimating the strength of the cable companies. My thinking is rather simplistic in that I believe that cable's bundle on digital cable, Internet services, and VoIP (Internet Telephone) will cause consumers to choose cable over satellite or telcos. Satellite cannot provide the same breadth of services and telcos are facing a tremendous challenge in both building their networks and programming.

One of the knocks against the cable industry is that it is perpetually spending capital to add features to fend off the competition. While that might be true to a certain extent, I think the average revenue per user will also increase because the cable companies will continue to add more value added services to its subscribers.

I have held and continue to hold Comcast shares.