A DATE WITH DESTINY

By Theodore Butler

Mid Jun 2009

(This essay was written by silver analyst Theodore Butler, an independent consultant. Investment Rarities does not necessarily endorse these views, which may or may not prove to be correct.)

I’m going to step back from the manipulation discussion and focus on a different issue. That’s not to suggest that the resolution of the manipulation is not the most critical factor influencing the price of silver. Of course, it is. When the manipulation is terminated, we will witness a completely different pricing structure in silver. But even when the price is jolted and set free, that will not be the end of the silver saga. It could well be just the beginning.

Last month, I received an unusual email from a long-time reader. This reader had followed my presentation of the facts for several years and had invested in silver. Nothing unusual in that. What made his e-mail unusual was that he was asking my advice for the company he works for. They use silver in their operation.

He works for one of the 15 largest public companies in the US, with a market capitalization of more than $100 billion. He holds an important position. He was concerned for his company in the event of a wholesale silver shortage. He sought my advice on how to present his concerns to the appropriate parties within the company.

I responded that he was to be commended for his concern, but he had to be careful not to damage his career. It was possible that any suggestion to lay in a supply of silver to prevent future disruptions in operations might backfire on him. He said he would proceed carefully with a well thought out plan and disclosure of his personal silver investment.

This reader has captured the essence of what will propel silver prices to the heavens, long after the price thrust from the termination of the manipulation. This is a theme I have written about for more than a decade. I consider it a signature issue. I’m talking about the certain panic among industrial consumers of silver when the shortage hits in full force. I can’t tell you when this panic will hit, but I’m certain that it will hit. For me it’s inevitable.

What makes me certain that the industrial users of silver will panic at some point? That’s simple - the physical realities of silver and basic human nature. So much silver has been depleted from existing world inventories over the past 60 years, that there is less remaining than at any time in hundreds of years. Yes, mine production has grown over those 60 years, but so has industrial consumption and other uses. This has resulted in a dramatic draw down of inventories, by over 90%. Yes, the world has stopped depleting world inventories in the past two or three years. But, it’s too late to prevent the coming user panic.

Silver inventories are so low now it doesn’t matter that they have stopped shrinking. That’s because a completely new force has emerged - widespread investment buying. This investment demand is a special factor, unique to silver. It assures the coming user panic. Over the past 30 years “just-in-time’ inventory management has become well entrenched. Just-in-time means little or no inventories on hand. Thanks to computers and sophisticated delivery systems, goods of all types are delivered at the very last moment. It is not uncommon for vital components in a finished product to be delivered literally hours before they are used in an assembly line. The incentive behind the just-in-time inventory process is the tremendous savings in not storing raw and finished goods. So powerful are the returns to the bottom line, that delivery at the last possible moment has become universal.

The risk in the just-in-time inventory process is that any unexpected break in the delivery process can cause a great impact. Any number of factors can disrupt the just-in-time process; labor strikes, weather and natural disasters, shortages of key components or raw materials. With no stored inventories to fall back upon, a scramble begins to fix the break. Here’s where a user panic can set in. No one will simply sit by and watch assembly lines shut down and their business die for lack of a single component. Moreover, if the needed component or material is one that is needed by other manufacturers, a fierce competition is likely to break out in a scramble to secure the material in question. In short, a user panic. Ironically, the attempt to secure extra quantities of the needed material actually intensifies the shortage. Those securing extra quantities are depriving others, thus worsening the shortage and panic.

Human nature plays a big role. I can tell you from personal experience in Florida, that when a hurricane is set to hit, if you are not fully prepared, it’s best to panic early. The mad scramble for food, gas, and other supplies unfolds like clock-work. Anxiety runs high. Price becomes a secondary consideration, securing needed supplies is paramount. I’m not ridiculing this behavior, as I’m usually part of the mob seeking supplies. It’s just human nature. My point is that those responsible for keeping the production lines open are human, and when they are faced with a shortage, they are also prone to panic.

There are many factors that make silver the perfect candidate for a user panic. The shockingly low level of verifiable historical world inventories sets the stage for a severe shortage. There is very little silver available if users rush to buy. The fact that the amount of silver used in a typical industrial application is so small, relative to the total cost of the finished product, makes the cost of securing additional quantities inconsequential. Securing six months or a year’s worth of silver inventory would be a snap for most silver-using companies. Unlike most raw materials, silver is quite storable, in that it takes up little space and requires no special holding requirements. By comparison, where would a user store fuel, in the event of a shortage?

Please remember that I am referring to a true shortage of supply - not enough physical material to go around. If it were merely a matter of protecting against a large price increase, an industrial silver user could buy a listed futures contract or an over the counter derivatives contract. That would be nice and simple and easy. But in the coming silver shortage, such contracts won’t be worth the paper they are printed on. In a true shortage, there must be a breakdown in the delivery mechanism. That’s always the first thing to go in a shortage. It even has it’s own special name. It’s called force majeure.

But there is one special factor that insures that the silver industrial users have a date with destiny. That factor, unique to silver, guarantees that the users will panic and attempt to build inventory at some point. The factor is investment demand. How many times have you’ve seen me refer to silver as being unique among all commodities in that it is both a vital industrial commodity and a age-old basic investment asset? Hundreds of times? Well this unique dual role carries particularly special significance for the silver industrial users. The reason is simple - competition. In silver, more investors than ever are buying it in physical form than at any time in history. More will buy and hold as the real silver story becomes known.

This investment buying deprives the industrial users to unrestricted access of the limited amount of silver in existence. That’s why it doesn’t matter that world silver inventories are no longer shrinking. Because investors are buying physical silver, the effect on inventories is exactly the same - there is less available for the users. This is highly unique to silver. Most importantly, investment demand can ignite in a heartbeat, just as with user inventory buying. Supply from production cannot begin to keep up. This creates the likelihood of a mismatch between supply and demand that only a high price can remedy.

Silver is unlike all other industrial commodities, because it is also a primary investment asset. It differs from its age-old companion, gold, in that gold is primarily an investment asset with very little industrial demand. This is a theme that I have endlessly tried to make. This is the critical difference between silver and gold. Not good, not bad, just that they are different in this sense. Gold can go to a high price for a wide variety of compelling reasons. But gold will never go into a true shortage with gold industrial users panicking to build inventory. Gold inventories are the highest in history, while silver is at the lowest level in centuries. Not only will silver climb for all the reasons given for gold’s anticipated price rise, silver is destined for a user panic.

While the timing for the coming user panic in unknowable, it is easy to imagine what could set it off. All it will take are delays in normal delivery. Just-in time means today, not tomorrow. At the first hint of delays, some users will move to secure additional inventory. That will necessarily cause further delays for other users, resulting in more and more inventory buying. This will set off the mile-long string of firecrackers. At that point, the panic must burn itself out, at the highest prices imaginable.

The impact on price when the silver industrial users panic and attempt to build inventories is almost beyond comprehension. At least, it’s beyond my comprehension. I honestly don’t know how to calculate price in a shortage. I do know that it is not a linear or logical analysis. It involves a large amount of emotion. In a hurricane, with lines of cars and trucks snaked around the gas stations, I have told myself I would pay any price I could afford. What price would a hundred billion dollar corporation pay for a supply of silver to insure it can continue operations and not lay off employees? What price would it pay to protect its survival as a going concern?

As time has elapsed, the evidence of the coming silver shortage has increased. We’ve seen tightness on the retail side for more than a year. The long-term price manipulation on the COMEX has aggravated the coming shortage beyond description. The email I received from the concerned employee was right on. A silver shortage is dead ahead. The industrial users are completely unaware and have been lulled into a sense of complacency. It’s something they have never experienced. That complacency is about to be shattered. In the coming clash for silver supplies between users fighting for inventory and investors fighting for positions in which to profit, the only question is how high the price will climb. Think of the highest price you can imagine and it will still be too low. But before you think of those high prices, please make sure you are holding all the silver possible.

NO CAPITALISTS HERE
By James R. Cook

We used to have a socialist professor at the University of Minnesota who gained notoriety with his anti-business tirades. One day there was a demonstration that pitted his advocates against a handful of business people. In the verbal exchange that followed, one guy kept yelling “you’ve never made a payroll.” Frankly, I didn’t get it. What the heck did he mean? What did making a payroll have to do with anything?

Years later, after I started my own business, I got it. For twenty years, from 1973 to 1993, four years were good and sixteen years were bad. When I had to go around to my employees and ask them if they could wait another two weeks before they got paid, I got it. When I went for months without a paycheck, I got it. When I laid off dozens of employees because business was bad, I got it. When I sold off my personal assets and the collection I loved to make payroll, I got it. When I cut us down to four-day weeks, I got it. When I laid awake a thousand nights racked by anxiety about how to make payroll, I got it.

The politicians, the media, the Hollywood liberals; they get it least of all. Our worldly goods, our luxuries, our services and our wealth don’t come through osmosis. Somebody had to take a big risk, struggle against overwhelming odds, work long hours, go the extra mile, practice unstinting integrity and develop abiding faith. Most who try don’t make it. Only by serving others better than the competition, or through innovation and new products can they succeed.

I’m not Hank Reardon or Midas Mulligan (Atlas Shrugged) but I can tell you that only the smallest number of individuals conceive the industrial and technological breakthroughs that dramatically improve our living standards. One of these was Henry Ford. In my book “The Start-up Entrepreneur,” I wrote, “In 1914, he shocked the world as no man had ever before him. He doubled the wage of his workers…and reduced their hours… The ‘five-dollar day’ stands out as one of the most generous acts in the history of commerce.”

Nevertheless, Ford was forced to yield to Walter Reuther and the United Auto Workers in the 1930s. The New York Times called him “an industrial fascist.” In the name of “social justice” Franklin Roosevelt sanctioned unions and gave them broad powers. This, coupled with an overabundance of regulation and high taxes has led to the current downfall of what was once our greatest industry. The things that raised everyone’s wages and made American industry great were minimal regulation, low taxes and limited government. That’s the exact opposite of what’s going on today.

Daniel Henninger, writing in the Wall Street Journal, describes today’s state of affairs. “So far Mr. Obama has used his personally exciting presidency for initiatives that are spending public money on a scale not seen since ancient Egypt. Besides Obama Motors ($60 billion to $100 billion), there is Obama-Care for health insurance ($1.2 trillion over 10 years), the stimulus ($800 billion), a global-warming offensive called cap and trade that hopes to siphon hundreds of billions of dollars from the economy, and a fiscal year 2010 budget of $3.59 trillion. Out of these mists of federal ‘investment’ they promise five million ‘green collar jobs.’ Only public-sector lifers could believe or assert, anything so fantastic…

All this is the Obama government’s idea of innovation. It is all public sector because all any of them know is public sector. Without exception, the Obama people with responsibility for the private economy come from a lifetime in politics, public administration or academia.

Besides Mr. Obama himself, the list includes Tim Geithner, Larry Summers, Peter Orszag, EPA’s Lisa Jackson (16 years with EPA), Commerce’s Gary Locke (zero private experience), or Transportation’s Ray LaHood (14 years in the House). The bio for Agriculture’s Tom Vilsack says he ‘has served in the public sector at nearly every level of government.’ How can the private sector – especially the world of risk capital, sweat equity and start-ups – be anything but an abstraction for this group?”

Those rare individuals like Henry Ford aren’t going to evolve in an environment where business persons are considered to be culprits rather than heroes. They won’t flourish when government lends its support to unions, regulators, socialist and politicians who see business as an adversary and who see wealth and success as a matter of luck. Higher taxes will kill off new businesses who desperately need to retain the capital they earn. It will drive entrepreneurs to other domains and discourage new ventures at home. The Washington agenda is the blueprint for national ruin.

WE COULDN’T HAVE SAID IT BETTER

“The Fed is buying up all this government paper in an attempt to keep interest rates low. Its plan is to spur economic activity via artificially low interest rates. THEY NEVER LEARN. There is only one main problem that all Socialists seem to overlook: Nature’s Laws of Supply and Demand. Thus their problem is that it's not working. Even with all that firepower at their disposal, because of the Laws of Supply and Demand, they cannot keep rates from rising. As such, just as I have been warning you since January 2009, the next major financial bear market crash will be in U.S. government bonds including Muni’s and although it started back in January, it has not yet been recognized by Wall Street.” Aubie Baltin

“The U.S. will be auctioning trillions of dollars of Treasury bonds in the coming months, and we depend on China to buy a goodly portion of those bonds. But China is issuing warnings about the dollar and worrying about their mountain of U. S. Treasuries. Remember, China holds roughly $750 billion in U.S. Treasuries.

China is increasingly worried about the U.S. continuing to issue new oceans of debt. U.S. Treasury Secretary Geithner has been getting an ear-full from Chinese officials on his trip to China regarding their worries about the dollar and Treasury bonds.

In the meantime, a skeptical China is arranging swaps with its business friends. For instance, this amounts to China swapping yuan for Brazilian reals, so the two can do business with their own respective currencies. This allows them to bypass the dollars, which would ordinarily be used in commerce. With the dollar in danger of losing its AAA rating, it’s no wonder that many countries are trying to do business while circumventing the dollar. The great fear from the U.S. standpoint is that one way or another, the U.S. dollar might lose its reserve currency status.” Richard Russell

* * * * *

“All categories of credit deterioration can be expected to accelerate into the fall, as the federal government SUCKS the life out of the private sector with their borrowing requirements. This means less ability for the private sector to access, roll over and service credit. The belief that the worst is over for the banks is a fairy tale. Whoever is buying their debt and equity is just the latest patsy. When they realize that have been DUPED by the US Treasury, the Fed and the Administration, watch what will unfold when HOPE turns to FEAR. Credit availability is crumbling, so credit cannot roll over. Look for acceleration in defaults throughout the rest of the year.” Ty Andros

ECONOMICS
By James R. Cook

Go figure. Unemployment reaches 9.6%, job losses are 375,000 and Wall Street celebrates. (John Williams writes in his newsletter the real payroll loss when you take the gimmicks out was 538,000.) Last week the Wall Street Journal reported that failures are rising steeply on $3.5 trillion of commercial real estate mortgages. This is likely to get worse and consumers who make up two-thirds of the economy aren’t helping.

Target reported a 6% sales drop May over May and Costco fell 7%. Abercrombie and Fitch reported a staggering 27% drop. This latter figure typifies the sales losses for specialty type shops in malls and shopping centers. That the consumers have pulled in their horns is reflected by a rise in the national savings rate. Meanwhile, consumer credit is contracting and wage growth stagnates. Studies indicate that in the U.S. we have been consuming trillions more than we produce.

For the time being, deflation has ended. Almost everything has stopped going down. However, the t-bond yield has risen to 4.5%. This trend could lead to more liquidations for stocks and bonds. The recession continues to deepen and the unemployment figures for future months will be grim. Another three to four-month burst of deflation could be in the cards if the debt problems worsen.

All of this means that downward pressure on commercial real estate won’t be relenting any time soon. These mortgages are greater than the total of all outstanding car loans, student loans and credit card debt. Pension plans and insurance companies who sell annuities are heavily invested in real estate. Some of the biggest names in the insurance industry have already turned to the government to keep them solvent. If commercial real estate continues to slide, you have to wonder how much money the government will inject before all confidence is lost in the dollar.

Ty Andros asks, “What do you think will happen if Treasury Bonds and Notes, as well as the Dollar, decline 20% in the next 6 months? What do you think foreign holders will do when confronted with these potential losses? The answer is self evident.The US economy will be buried by the beltway, legislatively, over the next 6 to 8 weeks, thus guaranteeing a HYPER-INFLATIONARY depression as incomes collapse, borrowing skyrockets, and the printing press is the only avenue of escape.”

SILVER MONEY
By James Cook

When the price of silver began to rise in the early 1960s, people began to hang on to the coinage because it was 90% silver. The government tried to combat this hoarding by minting much larger quantities of silver coins. Instead of the usual 300 million new dimes in a year, they struck two and a quarter billion dimes in 1964. Instead of a hundred million quarters, they struck well over a billion. Instead of the 25 million half dollars they struck in 1960, they minted over 425 million Kennedy

Halves in 1964. It didn’t work. The silver coins were grabbed up and began to disappear from circulation. The country was running out of coinage.

In 1965, the U.S. Mint dropped silver from the coinage and came out with a copper-nickel substitute. Subsequently, silver coinage totally disappeared from circulation. Over the years, a lot of these coins went into the melting pot and supplied industry with silver. Nobody knows how many are left. When demand is high, they take on a premium over their silver value. It’s possible that this premium can grow with higher prices.

Silver coin bags are one of the best ways to own silver. If Ted Butler is right and silver is much scarcer than most people think, silver coin bags may come under buying pressure and there may be far fewer than anyone believes. Certainly the supply is not endless and you should buy them while they are still available at today’s price. You get 10,000 dimes, 4,000 quarters, or 2,000 half dollars in a bag that weighs 56 pounds and contains 715 ounces of silver. You can also buy uncirculated bags that contain 725 ounces of silver. We ship them by registered mail in half-bag lots in boxes that weigh a manageable 28 pounds. We mark them “machine parts” to maintain privacy.

Call us now at 1-800-328-1860 and buy some bags of silver coins. We don’t think you can go wrong owning these bags of silver.

Sincerely,

James R. Cook

President