Thank You, Mr. Buffett

May 16, 1998

Silver bulls everywhere should take a moment and nod an appreciation of thanks for a great favor rendered towards Warren Buffett, the fabled investment genius, for his recent foray into the silver market. It is no small matter of historical record that his investment company, Berkshire Hathaway, purchased a significant chunk of world silver inventories (significant for the silver market, anyway), thereby focusing attention on one of the world's oldest and most recognized traded assets. The reason silver investors should be feeling a sense of gratitude to Mr. Buffett is for a number of factors, some obvious, others perhaps not so obvious. To my mind, his purchase is the defining moment in what promises to be a radical departure from the depressed pricing pattern that has characterized silver for the past fifteen years.

While some might consider this trivial at first blush, the most immediate obvious reason for silver bulls to give thanks to Mr. Buffett is for the instant relief that his Feb 3 announcement granted from the carefully orchestrated professional public relations campaign of the shorts that was raging at that time. On that date, the corrupt, but highly effective, months-long campaign (which included endless press, threatened and actual phony lawsuits and self-serving appeals to government and exchange officials for immediate investigations, all alleging some mysterious conspiracy by the longs) died an ignoble death. It is nothing short of frightening that such an obvious manipulative ploy could have even existed in our current sophisticated age. Just think of it - there was an incredibly strong undertow of belief that a commodity that hadn't even reached its viable production cost was somehow pushed artificially too high in price and that urgent action had to be taken to stop the greedy perpetrators in their tracks. Were it not for the very stature of Warren Buffett and his announcement, we'll never know what the alternative outcome might have been. I doubt the shorts' dirty tactics have been banished forever, but in the meantime, we're not subject to such nonsense on a daily basis. Thanks, Mr. Buffett.

The second, and more permanent obvious good deed that Warren Buffett has bestowed on the silver bulls was the stamp of approval that he gave to the "silver story". You know the story - years of deficit between production and consumption, the price inelasticity of both supply and demand, the resulting shocking drawdown of inventories and the ultra depressed price. It's one thing for you or I to say it, but for Warren Buffett to say it and back it up with hundreds of millions of dollars of his own and his long time shareholders is different. As the world's most successful investor, he has eschewed fads and stuck to value, and tops it off by communicating with common sense and keen business intelligence. He has simply and eloquently stated his reasons for purchasing silver and they need no modification nor interpretation. No other individual on the face of the earth could have issued a stronger validation on silver's value than Warren Buffett. For the confirmation that silver is a great buy strictly on the fundamentals, thanks again.

A less obvious, but very special benefit that Mr. Buffett has given to silver investors is the shortening of the time span until the coming certain lift-off of the silver price. By removing a significant chunk of silver that was destined for the black hole of the silver deficit, he has markedly accelerated the time it will take to get to the 'Moment of Truth". Since more silver is consumed than is produced, existing inventories must supplement production to match demand. There is absolutely no escaping this law of the physical world. Any inventory removed from the equation temporarily by a non- consuming investor, mathematically reduces the time it would take until the point at which production alone, with no assist from existing stocks, must satisfy demand. It is at this point, that all the talk and whining and tricks of the paper shorts will end, and only the truth of real physical material brought to market by higher prices will balance the supply/demand equation - just like what has happened to palladium. For bringing closer the silver moment of truth, Warren Buffett gets another salute. Not only has he exposed to all, one of the greatest investment opportunities of a lifetime, he has axiomatically hastened its resolution.

But I have saved for last the most important, albeit least obvious contribution that Warren Buffett has made to the silver bulls. By his actions and statements, Mr. Buffett has proved to all the folly of the precious metal loan experiment. He has proven, beyond any semblance of a doubt, that the silver (and by extension, other precious metals) market has been manipulated to a criminally absurd depressed price by metal loans and paper short derivatives. This is something you're going to have to think about, but not too abstractly, so please try to keep an open mind. First, just the facts. Then if you'll allow me, a conjectural look into Warren Buffett's mind.

Almost twenty years ago, an aggressive speculator, far from the inner circles of the financial elite establishment, plowed headlong into the silver market. He knew the real fundamentals and the deficit and the inelasticities in the supply/demand equation. He knew what a relatively small purchase would do to the price. The effect on the price of silver that Bunker Hunt wrought is the stuff of legend. In roughly a one year period of time, the price climbed ten fold, from 5 to 50, only to crash and burn as the rules were changed and the margin calls rolled in. While the popular historical version of the event painted Hunt with the unkind brush of unwarranted greed and brashness, serious investors everywhere took note of the amount that Hunt bought and the resultant effect on the price of silver. The formula was real simple - 100 million ounces removed from the market equaled a ten fold rise in price. The only problem was that the government regulators and institutional shorts were aware of the formula and were prepared for the next contender. The threat of becoming the next Bunker Hunt was enough to frighten off all comers for almost twenty years. It would take a contender of epic proportions to dare the wrath of the silver shorts and their government lap dogs and challenge the status quo of an artificially depressed price.
It would take a Warren Buffett.

But some things are different from twenty years ago in the silver market. For one thing the fundamentals are much more bullish. Years of persistent deficits have left existing inventories at an all time low (this for a commodity with a trading history measured in the hundreds of years). For another thing, the age old economic interplay between price and supply and demand that is the cornerstone of the capitalistic system has been replaced in the precious metals by leasing and the new substitute for price - the lease rate. But one thing has remained as it was in Bunker Hunt's silver world, the formula that taking 100 million ounces from silver inventories would increase the price ten fold. However, since the real silver market is in a much, much tighter fundamental position now than it was twenty years ago, a 100 million ounce purchase today would have a much more dramatic impact on the price of silver - say, a 50 fold increase in price, rather than the ten times increase attributed to Hunt. And that is exactly what happened to the price of silver when Warren Buffett bought his stake, it went up in price 50 fold. Let me repeat that - the price of silver jumped 50 times in value as Mr. Buffett effected his purchase.

You may think what I'm saying is crazy, but I ask you to think this through. The lending of silver and gold and precious metals is the driving force today in the markets. It is what sets the price at the margin. The lease rate is more important than the nominal price, because it is the price that moves the real material at last resort. Metal loans are stupid, immoral, fraudulent, manipulative and probably criminal (because they can never be repaid) - but they are as real as rain in their effect on the markets. Leasing and the lease rates control the markets in precious metals completely. For proof, look at what happened to the two prices of silver as a result of Berkshire Hathaway's purchase. From July 25 to the date of the announcement, the nominal price of silver increased maybe 40 per cent. The lease price, AKA the real price, jumped 50 times or 5000 per cent, from one and a half per cent to seventy five per cent. Also, Warren Buffett was only able to secure the quantity of silver he did, because of the very existence of metal leasing. No one would be stupid enough to relinquish such a quantity of silver at such a ridiculous nominal price, if he weren't blinded by confusion of the apparent (false) logic of metal loans. The deception is based on the premise that the metal loaned will somehow be repaid someday. In the ongoing deficit consumption pattern that exists, repayment is unequivocally impossible. Because metal leasing is firmly entrenched as an establishment tool, nobody dares question it. If metal leasing had been prevalent in Bunker Hunt's time, he would probably be referred to today as Senator Hunt.

So what's the problem? Or am I just being an unnecessarily harsh critic of precious metal loans? After all, on the surface things don't appear too alarming. Mr. Buffett was able to purchase an unbelievably large percentage of world silver stocks with very little disruption to the nominal price. Certainly lesser quantities are accommodated daily. The world of precious metals seems to be cruising along splendidly, with only a few waves here and there. The problem lies beneath the surface, just out of sight. The market, due to leasing, is rotten to the core. A little over a year ago, I wrote to the Treasury and the Fed about the fraudulent and manipulative nature of metal loans. They wrote back, basically, that all was well. At that time, lease rates on all the precious metals were under one or two per cent per annum. In the span of one year, for the first time ever, palladium lease rates have exceeded 300% on one occasion, and 200% on another. Platinum lease rates have exceeded 80%, and silver lease rates 75%. All three markets have undergone unilateral extensions of delivery terms for the first time in decades. A less genteel soul would say that these markets had defaulted. If you think default is too strong a word, compare it to the rhetoric of the shorts in silver just prior to the Berkshire Hathaway announcement. In any event, what do you think? Does this not suggest that something is wrong in the precious metals world?

The problem is that the lease rate has supplanted the nominal price of the metal in the three legged stool that is the price/supply/demand equation. The lease rate has become the fulcrum that lifts or lowers supply and demand and not the actual price of the metal. It is an abomination and a manipulation of the highest order. Perhaps, just perhaps this perversion of the free market might be overlooked if there were any chance whatsoever that the metal loans were really loans and could somehow be repaid. But that concept is beyond ridiculous. There is absolutely, positively no way metal loans can be repaid (with real metal) ever, ever, ever. How could the market withdraw metal to repay past obligations when it can't even cover current obligations (the ongoing deficits)? Rest assured that one day the lenders and borrowers will wake up and be jolted by the recognition of default. How could anyone attempt to justify an industrial corporation securing supplies for consumption by borrowing silver? Don't you think Warren Buffett saw this? Do you think he would place hundreds of millions of dollars in an unconventional market on a whim? Do you think he paid cash on the barrel head and chose to store in London on a lark? Don't you think he can see the day when the metal loan fiasco blows up, but in the meantime it is offering cash buyers the deal of a lifetime?

This is not to suggest that Warren Buffett has in anyway been a borrower or lender in the silver market, he's much too smart for that. He knew that leasing and the paper short derivatives created a low price for a legitimate buyer. He saw the silver situation for what it was and seized the moment. He was not intimidated by history or by the certain treachery of the manipulative shorts. An ordinary man would stand no chance of success as a pioneer in this game. Mr. Buffett has cleared the path. The conjecture I have about the man is as follows. His long time partner, Charlie Munger, remarked at the Berkshire Hathaway annual meeting how Mr. Buffett followed the silver market for 30 years before taking a position starting last July 25. I think I know what would cause such a man as Mr. Buffett to look at something so long before suddenly taking a strong position. It wasn't just patience. I think he was looking at and studying the silver market, and the deficits, and the low price, and kept thinking that he must be seeing something wrong, or overlooking some obvious factor that would explain the low price in spite of the apparent shortage. His common sense told him that something had to be wrong with his analysis, because you couldn't have a prolonged shortage and continued depressed prices. Then, last summer, he became aware of metal leasing and its manipulative effect on the markets. He understood at once that it was the uneconomic sale of metal under the terms of a never to be repaid loan that explained why silver could be priced so low in a shortage. He saw right through the sham lease transactions and acted accordingly. Maybe someday he'll verify my conjecture. Even if he doesn't, he'll still have my gratitude.

What Warren Buffett has done, more than anything else, is alert anyone intelligent enough to listen about a world class investment opportunity. I can just about hear him describing silver as an ongoing business or stock. "Here is low price venture that is guaranteed never to go bankrupt. It will always have a ready liquidation value. I can own it in size. It is 98% below its inflation adjusted high price of twenty years ago. I never have to worry about bad management taking over. Shares outstanding are being reduced by twenty per cent a year. It requires no time, no maintenance and little ongoing expense. It is like no other asset and is a prudent diversification. It is impervious to currency and political upheaval. It has stood the test of time for utility and desirability. It is known and wanted by every inhabitant on the earth. It is out of favor currently with the establishment. It has the largest naked short position ever known in history. The risk/reward ratio is so good it's scary. Forget compliant, it's Y2K enhanced. And, although it probably shouldn't matter at my age, it is the sexiest investment I own."

Maybe somebody can come up with a better investment than the current best bet of the world's best investor. Even so, my hat's off to Warren Buffett, and if you're a silver bull, yours should be too.

Gold is still being mined and refined at the rate of almost 2,600 tonnes per year.