In Ted Butler's Archive

The Silver Challenge

By Theodore Butler

(As has been our policy, we wish to include a brief disclaimer regarding mr. Butler’s views. No one can safely predict the future and it’s possible that mr. Butler’s analysis will prove incorrect. Silver can go up, but silver can go down. It is up to you to read, analyze, and arrive at your own conclusions. Prudence requires we emphasize that precious metals may or may not prove to be suitable for your consideration.)

In this article, I will try to answer those who have challenged my thesis about silver, and in turn, issue a challenge to you, the reader. My thesis is simple – silver is a remarkable raw material, that has found itself in a chronic long term deficit that has left existing world inventories near the point of practical extinction. This unsustainable consumption pattern (consuming more than is being produced on a current basis), is the result of a multifaceted manipulation that has rigged the silver price at an artificially low price level. The average person can capitalize on this artificially depressed price by buying the real thing, physical silver, and holding it in one’s possession, or in a safe place, and waiting it out.

One of the hallmarks of my research and analysis is that I rely upon public, verified and easily accessible information. I make my case with the information that is available to all. I am not an insider, by any stretch of the imagination, although I have had an intense exposure to the silver market for 30 years. If I am forced to guess or speculate because there is no way to verify an item, I disclose that fact. While my interpretations can seem extreme at times, for the most part I rely on logic and publicly available information.

In that vein, I’d like to take a moment to review the recently released Annual Silver Survey, published by the Silver Institute and Goldfields Mineral Services (GFMS), a few weeks ago. This information is, of course, readily available at the Silver Institute and GFMS web sites. Last year, I took the Silver Institute and GFMS to task for their annual survey, in an article entitled The Great Silver Lie, also readily available on the Internet. My gripe with last year’s survey was not with the numbers, or raw data but with their conclusions that everything was normal in the silver market. I, on the other hand, find something very wrong with a continuous deficit in a commodity with flat to falling prices. That stands against everything we know about the law of supply and demand economics and the free market. I don’t intend to replay my argument this year, although the Silver Institute still pretends everything is A-OK, which definitely is not the case. Let’s get to this year’s numbers.

There are really only a few numbers that matter. I’ll round-off to keep it simple. Total world demand was 920 million ounces. Total mine production was 590 million ounces. Total scrap recovery was 180 million ounces. The deficit was 150 million ounces. I hope you don’t mind if I keep this simple. One number matters most – 150 million ounces, the deficit. The other numbers mean something, but the deficit number is by far the most important.

The deficit numbers mean that there are 150 million fewer ounces of silver in the world, compared to last year. That is all you have to know. Please think about this, as this is the key to understanding silver. A 150 million ounce deficit means one thing only – we have used up 150 million ounces of silver from inventory. We have taken an additional 150 million ounces from rapidly depleting world inventories. We have eaten up 150 million ounces of silver that we can’t eat up in the future. 150 additional million ounces of silver in above ground stocks are gone, either vaporized or put into a form that can’t come back at anywhere near current prices. 150 million ounces of silver is more than the top two producing countries, Mexico and Peru, mine in a year. It is roughly equal to what the largest industrial consumer, the United States consumes in a year. It is greater, by 65%, than the amount Warren Buffett took delivery on (remember, the shorts could only give him 90 million of the 130 million ounces he bought in 1998, before they pleaded for mercy).

The Silver Institute has been reporting, routinely, a silver deficit of roughly 150 million ounces for more than a decade. That means more than 1.5 billion ounces of silver have been taken from inventories in ten years. That’s 1.5 billion ounces gone. (In reality, the 150 million ounce annual deficit has been occurring for 50 years, so 7.5 billion ounces are gone). Let me assure you, that commodity deficits are a rare occurrence. You just don’t see them on a regular basis. Except in silver. Because only in silver do we have the world’s largest short position, a crooked leasing game, and a corrupt users association. With a documented silver inventory drawdown being reported every year, without fail, it’s a wonder I have to remind people that silver is the buy of a lifetime.

The other number in the Silver Survey, I would like to mention is world mine production of 590 million ounces. What this means, to me, is that we have 590 million fewer ounces of silver beneath the earth’s surface. 590 million fewer ounces to extract in the future. While you can certainly apply what I’ve said to all other, nonrenewable mineral commodities, no other commodity has the distinction of having an above ground draw down, in addition to a below ground draw down. And no other commodity is also trading close to a 5000 year adjusted low price. With silver priced below $5, almost 3/4 million ounces (590 plus 150) were removed from above and below ground, and are now gone. How long do you think this can continue?

Remember, I am not making these numbers up. These are the most accepted silver statistics available. These are numbers from the Silver Institute. While the numbers from the Silver Institute appear valid, one question should explode in the mind of anyone reading this report. How in the world could there be a deficit of 150 million ounces in a year, no less a 1.5 billion ounce deficit over ten years, without the price going up, without it soaring to unheard of heights? When there’s a short supply of something, the price rises. I mean, this is basic supply/demand stuff.

There is no question that a deficit in a commodity means the amount of the deficit must be taken from existing inventories. How do you get supplies from inventories in a free market? Only with higher prices. Period. It’s impossible to take inventory away from long-term holders with lower and not higher prices. This is the essence of the law of supply and demand. But we, obviously, don’t have higher prices in silver, not for the past year, or the past ten years. So, what’s going on? It’s leasing. specifically, leasing from places like the Central Bank of the Philippines. They are the only central bank whose silver bars are good delivery on the London Bullion Merchants Association (LBMA).

Supply is provided to the market with no regard to price. The price doesn’t matter with leasing sales. This is the proof that leasing is loony. Central Banks only care about a foolishly low lease rate of 1% to loan out their silver. The bullion banks (or mining companies) only care about the money they get paid for the silver and their ability to earn the difference between the lease rate and the going interest rate on this money. They never seem to consider the potential crisis implicit in their requirement to repay the silver. There isn’t enough silver to repay this lease and also meet industrial demand. It’s manipulation and fraud in its purest forms. How the Silver Institute and GFMS hides this is shameful. But the artificial low price is what creates the opportunity for you.

This may sound a little anti-climactic, but there haven’t been many serious challenges to what I’ve written. Every once in a while, Jim Cook will call me, with a question or comment from a client, or prospective client, but there’s never a serious specific point to be discussed. That’s a bit of a revelation to me. I have made some pretty outrageous statements and accusations, yet I have received very little in the way of confrontation or disagreement. Perhaps that does not prove what I say is correct about the manipulation and rigging of the silver market, but it also doesn’t prove what I say is wrong. I think that’s because I have always been careful to use only publicly known facts and figures.

I have received some comment on my unabashedly bullish take on silver, but those arguments center on how much silver may exist in unreported inventories, and at what high price those inventories may become available to the market. It never has anything to do with the deficit or documented inventories. It always has to do with that which cannot be documented. It’s always about how much silver is out there, ready to be dumped on the market. But no one is ever able to substantiate any specific quantities. It’s always, “there’s plenty out there.” Or, that there’s billions of ounces of silver in India, just waiting to be dumped on the market. Or the Red Chinese Government is dumping silver on the market, for the first time in history, at the lowest prices ever. Ask for verification, and it’s like you asked someone to cut off their arm.

Of course, there’s unrecorded silver out there. But most of it is only available at dramatically higher prices. This is a poor argument against silver. Who cares if there’s potential silver available at much higher prices? Have you ever made an investment in anything that didn’t have potential supply available at higher prices? Have you ever bought a stock, or a piece of real estate, where you didn’t assume that others would sell if prices went substantially higher? Why would that be different in silver? So what?

The funny thing, about all this silver that’s supposedly out there, is we all acknowledge that it’s in some form other than bullion. It’s in coins, or jewelry or forks or picture frames. Think about that. We’re talking about a source of potential supply that’s in a form where the actual content of the material is a small part of the finished product. How much actual, recoverable silver do you think is in a silver ring, or a sterling silver fork? Let me tell you, not much. A ten dollar ring may have $1 worth of silver. A $50 dinner fork may have $6 worth of silver. I saw an ad from Tiffany’s on Kentucky Derby Weekend this year, for a Mint Julep Cup that might have been made with 2 or 3 ounces of silver. Guess what the price was. $400. Is this the silver that is coming to market at higher prices? What higher price? A thousand dollars? Do yourself a favor, look around. Is your wife ready to sell any silver objects in your home at higher prices? Are you neighbors? Do you know anyone ready to dump their silver jewelry or objects in the home at higher silver prices? Do you know anyone who’s ready to sell their diamond wedding ring, or gold wedding band, if only diamond or gold prices would rise? Is Martha Stewart going to tell folks to sell silver in the home, if prices rise? Are poor Hindu brides in India, whose only possession of personal wealth is what they can physically wear on their bodies, looking to sell their silver necklaces and anklets at $10? For what purpose – to wear paper Rupees instead? What basis does there exist to suggest that we’ll have a repeat of 20 years ago, when prices rose 30 and 40 times over prices 10 years earlier, and folks jumped on a perceived bonanza? And if we do have such a bonanza, and prices rise 30 or 40 fold over current prices, to $150 or $200 an ounce, is this a problem to a silver investor?

The other challenge I get regarding my take on silver is that the low price proves me wrong. In other words, if things were as I say they are, the price would be much higher. It is precisely the low price that makes silver so attractive. Do you think I would be pounding the table if silver were trading at $30 per ounce? Folks who attempt to use the argument that the low price of silver means my analysis is incorrect miss the basic point that analysis is about trying to determine if an investment’s value matches up with its current price. A true analyst is always looking for a “wrong” price. If the price always was correct, in terms of reflecting true value, there would be no reason for anyone to analyze anything. Saying the current price of silver reflects its true value, with no backup or rationale, is bogus.

Here’s my challenge to you, the reader. You know how you always hear investment professionals telling you to be sure to do your own due diligence. To research your investments thoroughly, and not rely on what anyone may say. How does the average guy do that? Like someone could really understand the accounting and financial statements written by those whose very purpose is to obfuscate the issue. But that’s not the case in silver. Here, the information (at least the information I use) is readily and widely available. All it’s a matter of, is verifying that information and applying common sense.

Here’s the challenge. Check out what I say. See if I have misstated the facts. See if I have used faulty logic. This is not a trick to get you to buy silver. I’m not interested in tricking anyone. I’m not going to share in your profits or losses. I am not getting a commission from you if you buy or not. Jim Cook pays me to put my thoughts about silver on paper. These are the exact same thoughts I put on paper for years, before I knew him. I’ve known some people who have taken up the challenge of researching and verifying what I write. I’ve yet to find anyone who’s taken this challenge of verifying what I’ve written, who hasn’t bought silver afterward. Sure, some folks have dismissed what I’ve said, but certainly not after doing their homework. Take my challenge, do your homework. Check out what I say.

Here’s a bonus for physical silver buyers. Sometimes I gloss over details, assuming that folks know what I mean. Let me make sure I’m clear on what could be a very important tax matter. I’ve always said there are tax advantages to buying physicals over paper, specifically leveraged paper such as futures, options, leveraged contracts. No. I’m not talking again about the ever present risk of default here, or untimely margin calls, I’m talking taxes. Let’s say silver does jump by the end of the year (this year, or any year). Be conservative – let’s say $10 or $15 an ounce. If you own futures or options or some private leveraged contract, you have to mark to market. What that means is you must figure and pay taxes on what the closing price is on Dec 31, whether you sell or not. Let me repeat that – whether you sell or not. If silver closes at $10 or $15, you must pay taxes on the difference from what you bought at, $5 or $4.

In that situation most prudent investors would sell their position to cover the tax liability. To not sell and then hope the price continues to climb is a recipe for disaster. This potential disaster takes two forms. One, you don’t sell out on Dec 31, and the price heads south after that date, leaving you with a giant tax liability on an investment that no longer shows a profit. Two, you do sell out at $10 or $15, to eliminate any adverse consequences, and the price of silver then soars to $50 or $100, while you watch from the sidelines because of the mark to market tax rule on futures and options. It is a potential disaster completely avoided by buying physicals, for cash. When you buy real silver, on a fully paid for basis, there’s no tax liability until YOU decide to sell, not some arbitrary government tax date.

As soon as leasing ends, which it must, the silver manipulation is over. Then the price will soar. But when will that be, I am often asked. And, as I always answer, I don’t know when, but I do know how. When is unknowable. How is knowable – big and violently. Because we know how and not when, concentrate on how. What I mean is, make sure you’re positioned now, because when the days comes, if you’re not in, you probably will never get in. The price can explode and move up so fast you’re left behind.

Whenever a market is artificially suppressed a powerful force builds up that will eventually rectify the imbalance and drive up the price. Take government price controls as an example. Once they are lifted the price of the controlled item soars upward. We saw that with gold in the 1960’s and 1970’s and with numerous products at the end of the Second World War. This silver price suppression is worse. A huge chunk of the available supply has been used up and erased at an artificially low price depleting the supply. At the same time the lack of a proper higher market price has lessened silver production, discouraged substitutes and made reliance on cheap silver that much greater. Silver has been held down by people selling silver they don’t own outside the laws of supply and demand, with no regard to price. It’s embarrassingly kooky. When it backfires, as it must, the participants will be crushed by market forces that will set the true price at much higher levels. If you don’t own silver, then you don’t clearly understand these facts. Because once you truly comprehend the silver predicament you see an opportunity unprecedented in history for violent price action to the upside.

Each and every day more and more people are comprehending just what is going on with silver leasing. Most buy silver. This knowledge is spreading. That’s one of the biggest dangers the huge leasing entities face. When enough people in the world catch on, then the silver supply will tighten up even further. In the meantime, until silver leasing ends with a bang, there exists one of the purest examples of a grossly undervalued asset ever known.

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