The Hidden 41% Yield in This Under $10 Silver Stock

Precious metal mining companies are in the sweet spot of the economic cycle right now. While prices for gold and silver have been in an extended bear market since peaking in early 2011, there are legitimate arguments being made for a long-term rally that could be getting started right now.

Much of the investment appeal for silver and gold comes from inflation concerns. For the past three years, a slow economic recovery and deflationary concerns have pressured precious metal prices. But as the job market recovers and economic activity returns to a more normal level, the Federal Reserve is becoming more vocal about inflation and will likely allow interest rates to rise over the next few quarters.

We have already seen a short-term bounce in silver and gold prices following Fed Chair Janet Yellen's June statements about the potential for interest rates to rise, and I believe this is the start of a longer-term bullish trend for precious metals as investors hedge their exposure to inflationary pressures.

Over the past few weeks, precious metals have consolidated some of their recent gains, pulling back in a healthy manner and not breaking below the point at which they began rallying in earnest following Yellen's remarks.

SLV Chart

This pullback offers us an excellent spot to enter put selling income trades for gold and silver miners. With precious metals at moderately lower prices than they were two weeks ago, we can set up bullish trades with more attractive entry prices. Additionally, the pullback has caused volatility to increase, which naturally causes option prices to rise.

Although both offer excellent income opportunities, I'm more interested in silver miners than gold miners. Silver prices are historically more volatile than gold prices, in part because silver is consumed in various economic processes whereas gold is typically stored for aesthetic or investment purposes. More volatility equals higher option prices, which helps us to create more income from our put selling trades.

Last week, we set up an income trade for Silver Wheaton (NYSE: SLW) -- a silver streaming company that purchases rights to the silver production of a portfolio of mining companies. Today, I want to capitalize on the strength of a more traditional silver miner, Silver Standard Resources (NASDAQ: SSRI).

SSRI's Pirquitas mine in Argentina, which started commercial production in 2009, produced 8.2 million ounces of silver last year. And the company recently acquired the Marigold mine in Nevada, which has been in operation since 1988 and produced 162,000 ounces of gold last year. 

Although SSRI is not currently profitable, a turnaround is expected. Analysts believe the company will post a loss of $0.52 this year. But the consensus estimate for 2015 is for a profit of $0.25 per share, and if precious metals continue to rebound, these estimates could prove very conservative. Since SSRI is dependent on rising silver prices to generate a profit, uncertainty is relatively high, which gives us plenty of premium in the option prices.

With the stock trading around $9.45, I'm interested in selling SSRI Sep 9 Puts for a limit price of $0.50.

By selling these puts, we are agreeing to buy 100 shares of SSRI per contract at the $9 strike price if the stock is trading below this level when the puts expire on Sept. 19. To cover this obligation, we will need to set aside $900 for every put contract that we sell. But since we will be receiving $50 per contract from selling the puts, we will actually only need $850 of our own capital.

If the puts expire worthless, the $50 in income represents a 5.9% gain over the $850 in capital set aside. Since we will be generating this in 52 days, our per-year rate of return is 41%.

Setting up income opportunities in precious metal miners makes a lot of sense in this environment. While there is a degree of uncertainty at key turning points (and this appears to be a bullish turning point for precious metals), we are being paid well for accepting this risk.

If SSRI trades below $9 and we are assigned shares, our net cost will be $8.50, a significant discount to current prices. And I believe SSRI represents an excellent long-term investment opportunity that could result in material capital gains over the next few quarters.

Note: My colleague Amber Hestla has closed 52 straight winning trades using this strategy. You can see her entire track record and learn exactly how you can make the same winning trades yourself by following this link.

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