Butler On Silver

THE REAL DEAL
By Theodore Butler
Early March 2008

We live in a financial world of increasing risks. For many people, these risks seem to have come out of the blue, given how rapidly things are unfolding. For the first time since the Great Depression, we face an epidemic of foreclosures. This epidemic threatens the viability of our largest financial institutions, right down to the individuals defaulting on mortgages. It is easy to see now that the cause was irresponsible lending and borrowing which allowed a bubble to develop in real estate. It’s less easy to gauge the depth and length of the resultant bust.
Daily we read about AAA securities marked down as much as 90% in value, investors unable to redeem their capital, giant financial organizations disclosing billions of sudden losses and endless new government plans to bail everyone out. Most importantly, there’s a growing distrust of who is on the opposite side of massive financial transactions. This counterparty risk poisons the financial scene. If all this scares you, don’t feel bad. It should.
Not everyone was taken by surprise at the unfolding events in real estate and credit markets. Many warned of the dangers for years before the full effects were known. Looking back, it’s truly amazing how so many large and respected financial institutions were blind-sided and badly hurt, when so many warnings were issued.
Those who warned about the real estate and credit bust used their common sense. They argued that giving indiscriminant and unlimited credit to those who couldn’t afford that credit based upon an assumption that real estate could only go higher would end badly. They were right. Common sense almost always prevails in the long run. It’s okay to be wrong, but it’s not okay to be wrong when you go against your common sense. You end up kicking yourself.
The purpose of this preamble is to launch a warning intended to save many silver investors from financial loss and heartbreak. It is a warning based upon common sense. It is a warning validated by recurring events. It is a warning that you can easily act upon. It is a warning that highlights just what a great long-term investment opportunity silver represents.
The warning is simply this - if you make, or have made, the decision to buy silver, then make sure you buy or hold real silver in the right form. Make sure you have the real deal and not a pure paper substitute. The greatest risk possible to silver investors is not the price of silver, but in holding the wrong form of silver and suddenly discovering that silver doesn’t exist. Investors in such non-existent silver face the very real risk of a total loss, even if silver soars in price. While you must allow for short-term prices to fluctuate, there should be no allowance for holding silver in the wrong form.
Clearly, there is no risk of a total loss to those holding real silver in their own personal possession. That’s what makes such silver the very best form of investment silver, and is precisely why investors hold it in that form. The warnings do not apply to that form of silver. The only warning to these investors is that they may not own enough silver.
Not everyone can hold silver in their personal possession. They must have it stored for them, due to the large amounts being owned, or because it is held in retirement accounts. Just as the giant financial institutions are growing wary of who is on the other side of their transactions (counterparty risk), so should private investors who have to store their silver. Counterparty risk is a new term for many investors, but it reflects an age-old concern, namely, the soundness of whoever holds your money or assets, and your ability to draw on your assets without delay or restriction.
The bad news for financial institutions, and silver investors with silver not properly stored, is the difficulty in determining the true financial condition of their counterparties. It seems you can’t rely on the independent rating agencies (or bond insurers) any longer. If there is a problem, it’s too late when you hear about it. If your counterparty goes bankrupt, you go to the back of the line for unsecured creditors at bankruptcy court.
One of the great attractions of silver and gold, and other unencumbered hard assets is that they are immune from counterparty risk when held in your personal possession or in the right form of storage. They are no one else’s liability. As financial conditions worsen, the immunity to counterparty risk grows more important. Unfortunately, for too many silver investors, they are holding silver that does not exist. They are holding a piece of paper, in the form of a certificate or pool account or electronic read-out, that states that they own silver, but they don’t own real silver. The great irony, and coming heartbreak, for these investors is that, by not holding stored silver in the right form, they have converted an asset that is no one’s liability into an asset that is most definitely someone else’s liability. It is an alchemy of the worst sort; the creation of a counterparty risk where none existed.
Investors can spare themselves potential disaster and avoid counterparty risk for professionally stored silver by taking a few simple precautions. First, make sure your silver is stored at an institution whose name you recognize or can easily research. Second, make sure your silver is stored in a facility separate from the dealer or source you bought the silver from. In other words, don’t let your dealer hold your silver. Third, make sure you have the serial numbers and specific weights of every 1000 oz bar stored for you (the most popular form of stored silver). Lastly, it is important that you have the ability to withdraw the specific bars you own on your demand.
I’ve written about this issue previously. Invariably, I will get questions about this dealer or that storage arrangement. Please don’t ask me. I just listed the simple, common sense precautions you should take. These precautions should be easy to understand and follow.
A year ago, I took the unusual step of highlighting two well-known purveyors of what I believe is non-existent silver storage, the unallocated certificates of the Perth Mint and the pool accounts of Kitco. I was careful to write in a non-destructive manner, as it was not my intention to bring harm to these organizations, but rather help them avoid future problems.
http://www.butlerresearch.com/buyerbeware.html
While I would suggest you read the entire article, here are some excerpts:
"In the typical pool account or certificate program, the buyer incurs a very small sales charge and zero storage charges. Your common sense should tell you that this is only possible if there is no real silver being purchased. Zero storage charges equals zero real silver. So the trade-off for the buyer is that no real silver exists. There may be statements given by the issuer that there is real silver backing the pool or certificate account, but no specific proof. Further, there is usually a provision that the buyer can get real silver if he is willing to pay an additional charge. While this sounds reassuring, this should further prove to the buyer that no real silver backs a pool or an unallocated certificate account.
What about looking at these transactions from the issuers’ perspective? What’s in it for them? Well, certainly not sales commissions or storage fees. But these are for-profit organizations. They are in business to make money. How do they make money or even cover costs, if they don’t charge storage fees? They make it on the float, or the use of the buyers’ money. That’s the only way they can make money. The issuer puts the buyers’ money at interest or into the business. Since no actual metal backs up these pools, the financial strength of the issuer becomes a factor. In other words, it is not real metal that backs up these accounts, but the financial security of the issuers themselves. Make no mistake – these pool and unallocated certificate accounts are unsecured obligations of the issuing entity."
Without a doubt, the largest amount of non-existent silver is held in large bank and financial institution certificate programs, especially European banks. I am convinced that these certificates represent much more than a billion ounces of silver. While I have reiterated this statement over the years, validation finally came in the past year when Morgan Stanley agreed to settle a class action suit alleging them charging storage fees for non-existent silver and other precious metals. The suit originated as a result of an investor taking legal action after reading my articles on the matter.
I raise this issue to make several points. First, that the practice of banks and giant financial institutions issuing certificates on silver that doesn’t exist actually takes place. I’m sure many doubted that this went on, until the Morgan Stanley case (in which they admitted it was common industry practice.) Also, seeing how badly they misjudged the mortgage and credit markets, it is not as difficult to imagine large institutions agreeing to sell vast quantities of silver they didn’t own.
Second, as I have long maintained, these unbacked silver certificates are true and naked short sales, exposing the banks to large losses as silver rises in price. These short sales are separate and distinct from the historically large concentrated short position on the COMEX. Already, the rise in the price of silver from the sub-$5 level, has cost the issuing banks many billions of open losses. And, while these losses may appear small next to the tens and hundreds of billions being lost on mortgages and credit derivatives, the silver certificate losses are spread among fewer banks than the credit fiasco, and the silver losses now far outweigh the long term profits the banks generated on the utility value of the silver buyers’ deposits.
Third, the principal buyers of these bank silver certificates are predominantly large and sophisticated investors, particularly in Europe, the Middle East and Asia, mainly because large transactions were customarily handled through known financial institutions. In a very real sense, there was no alternative to buying real silver and getting serial numbers, or avoiding VAT taxes, but now there is.
That these unbacked silver certificates are true short sales adds a profoundly bullish prop to long-term silver prices, especially now that large foreign investors have the means and growing knowledge to insist that their silver investments be backed by real silver. The evidence of real silver are the serial numbers, either in ETFs or held in a direct ownership storage program.
Let me be clear, not all issuers of unbacked silver certificates or accounts will default or renege on their silver obligations. But some will, thereby devastating their investors. More importantly, all issuers of unbacked silver certificates are cheating their silver investors by preventing the true price impact those purchases would have in the silver market. In this regard, issuers of unbacked silver certificates, no matter how large or respectable they appear, are no more legitimate than the "bucket shops" of the past, or the boiler rooms of today.
As time rolls by, more of these large and sophisticated foreign investors will insist on serial numbers, because they know it will enhance the value of their investment and increase the safety of their holdings. The purchase of real silver will naturally have a more powerful impact on price than will a purchase of fake silver that a counterparty issuer only pretends to exist. Just by insisting on serial numbers we get a bigger price. That’s a strong motivation for switching from unbacked silver certificates to a form that includes serial numbers.
While I have intentionally tried to deliver this message as a warning, so that innocent silver investors can avoid a nasty potential surprise, there is an almost unspoken upside if enough investors follow my advice. Because I am convinced there are more than a billion ounces of silver tied up in unbacked silver certificates and storage schemes, if only a small percentage of those investors, say 5% or 10%, switch to storage programs holding real silver with serial numbers, the impact on the price of silver could be profound. All other things being equal, such an amount of switching could cause a doubling in the price of silver.
One thing should stand out to every objective observer. So much silver has been pre-sold by those who don’t have it, including from the big COMEX short sellers to all those entities that have issued unbacked certificates and pool accounts, it has created a special situation unique to silver. Yes, there is very large combined short position in gold, but nowhere near the levels in silver, where more silver is sold short than actually exists in the world. This will invariably drive prices to unbelievable heights.
Self-preservation and common sense are two very powerful human instincts, no matter how large or sophisticated an investor may be. Those instincts will continue to motivate investors in the future, and there will be increasing demand for stored silver with serial numbers. Throw in the awesome profit potential and you have summed up the silver investment story. It is important to buy and hold silver. It is just as important to buy and hold the right form of silver.
POPULIST POISON
By James Cook
The political campaign recently focused on the sorry economic conditions in Ohio. What caused this misery in our industrial heartland? High taxes for one. Federal and state taxes take money away from businesses that would be used for growth. As T.J. Rogers so aptly put it, "Taxing the rich to fund poorly managed government programs is simply a self-destructive decision: It does nothing more than move money and investment decisions away from proven moneymakers (read: job producers) to Washington amateurs. In both cases, Americans lose."
That’s not all. Business invests enormous time and energy in complying with laws and regulations. Regulators are a police force intent on tripping up errant businesses, levying fines or worse. A single regulation can exterminate an entire industry. Too much of management’s attention given to regulation detracts from a company’s efficiency and profits.
U.S. business spends too much time and money defending against litigation. Suits emanating from the government can paralyze a company for years. Product liability lawsuits make innovation less likely and wipe out whole segments of commerce.
The main expense of any business is labor. Foreign competition enjoys lower labor costs. Our unions may crow about raising living standards and wages, but they also price companies out of the market and cause job loss.
Welfare benefits, unemployment benefits and other subsidy programs weaken the work force. Certain workers will sluff off, report late, miss work or abuse chemicals if they know a government check will replace their paycheck should they be fired. The government provides incentives that erode the work ethic. The government has fostered a national epidemic of getting something for nothing. This burdens business with phone lawsuits, employee theft, trumped up medical claims, insurance fraud and an increase in bad character.
There are legal barriers to starting a business such as permits, bonds, licenses or regulations. Business pays for all or part of health care costs, unemployment benefits, workmen’s compensation insurance, product liability insurance, Social Security benefits and Medicare. When you add to this, non-productive legal costs, licensing fees, property taxes, sales tax, income tax and excise taxes, you have a thoroughbred carrying a 300-pound jockey. In other parts of the world they don’t have to carry this much weight.
So, what’s the prescription for Ohio from the candidates on the left? Higher taxes and more government programs; the exact reasons for Ohio’s economic decline. Liberals in America apparently have the same mind-set as Robert Mugabe or Fidel Castro who turned their reasonably prosperous countries into third world hell holes. If you think that can never happen here, you’re wrong.
RUFF ON SILVER
Newsletter and book author, Howard Ruff, recently wrote about silver as follows:
"The Silver Lining in every cloud" is the symbol of optimism. It is right up there along with gold and platinum for jewelry or wedding rings. Silver has been by far the most commonly used monetary metal; silver coins are far more common than gold in much smaller denominations. It is the most common coinage used as money (the British pound sterling); Silver coins have been standard currency in many nations in all ages of time, much more even than gold. It has been used more often than gold for coins because many silver deposits are much shallower than gold, so they have been easier and cheaper to mine, even by primitive methods.
But never before have government silver coffers been so bare.
"Silver is used in more applications than any other commodity (aside from petroleum)."
Those are the words of Theodore Butler, an independent silver analyst. I agree with Butler that, despite the insanely profitable gold bull market, silver may not be just twice as profitable as gold in the next few years, but even more than that. Why?
Butler says, "silver is in huge short supply, and the shortage is getting worse by the day; the silver inventories which depressed the price for more than sixty years are gone!" More about that in a moment. He’s certainly right if you are talking about silver at today’s price!
Unlike gold in the 70s when Jimmy Carter decided that rising gold was an embarrassment to the dollar and announced gold sales from Fort Knox to depress the price, government can’t decide to dump their silver onto the market to artificially suppress the price – because they no longer have any! Silver is still the poor-man’s gold, and the time is not far away when the investment world finally wakes up to the shortages, and soaring demand will make it difficult to find any investment silver at any price this side of $100 an ounce.
In the inexorable law of supply/demand, price is the great equalizer. There is plenty of silver available -- at the right price – and $14 to $17 is not the right price. At increasingly higher prices, silver jewelry and sterling silver will come out of the wood work. I remember back in the ‘80s when I put out my famous silver sell signal, Investment Rarities, which at the time was my only recommended dealer, made millions buying down and melting and salvaging all kinds of silver – sterling silver and bags of coins – as investors who believed me that the silver bull market was over, were melting down even heirloom sterling silver. The same thing will happen again, but at much higher prices. And silver will come out of India and China in the form of jewelry to be melted down, but again, at much higher prices. At these prices, with their economic boom over the last decade, the newly created middle-class Indians and Chinese are buying gold and silver jewelry.
Says Butler, "If you could find a commodity which was considered a precious metal and was far more rare than gold, wouldn’t today’s crazy price discrepancy ($12.50 silver and $700 gold after the time he said it) seem utterly ridiculous?" I agree. But not necessarily for the same reasons as Butler.
When the world discovers the supply-and demand fundamentals, silver will be the star for investors. The safest money will be made in physical silver held in your possession. Someday soon, the users who need it may not be able to buy physical silver at anywhere near today’s price because there won’t be any available in the empty warehouses. If they need or want some, they may have to buy yours or metals from India or China – at 0a much higher price!
(This excerpt was taken from Howard Ruff’s new book, "How to Prosper During the Coming Bad Years in the 21st Century.)
WHAT WE CAN’T SAY
By James R. Cook
We have to be careful about what we say when it comes to people’s money. For example, we can’t say silver is going to $100. We could quote somebody who said that. Or we could say silver is going to $100 an ounce, but, on the other hand, it could also go down by half. So, we don’t bother to say any of that. We can’t guarantee price gains or make assurance that there is no risk. We can’t give you any assurances, and we can’t predict the future. However, I can tell you what I think.
I think that the huge short position in silver makes it certain that, over the long term, silver will go up. Silver is probably riskless for long-term holders of physical silver and price gains are inevitable. I think the concentrated short position insures that you can’t lose and that you must inevitably make dramatic gains. Once you understand the dynamics of the huge concentrated short position, you may see one of the greatest financial opportunities of your lifetime. What is sold short must eventually be bought back. I think silver is almost a sure thing, and you may never get a chance to profit like this again. Silver is as good as it gets. That’s what I think. Time could prove me wrong, but I don’t think so.