Beginning in 1973 the then richest family in America decided to beat inflation by buying silver, then $1.95 an ounce. It worked brilliantly and by 1979 the Hunt brothers had amassed half the world’s silver in a pool with wealthy Arab investors and the price peaked at $54. But they used too much leverage and the authorities changed the rules to pop the silver bubble. Could this happen again today?
As inflation rears its ugly head there are bound to be very wealthy people like the Hunts who look for a way to protect their assets. Indeed, Warren Buffett, George Soros and Bill Gates are among individuals known to have invested in silver.
But so far nobody has gone as long on silver, or invested as publicly as the Hunt brothers in the 1970s. That perhaps was one of the mistakes that the Hunts made, although it must be difficult not to attract publicity if you are effectively cornering a market, something the Hunts still deny.
Why did the Hunts pick on the silver market? Then as now hard assets provided a hedge against surging inflation: the supply of silver is basically finite while the paper money supply is infinite. So in a time of inflation precious metals make sense for investors looking to preserve real value and are monetized.
The Hunt family clearly did not originally make its billions without a shrewd investment gene in its pool. And choosing silver was a leveraged play on the much larger gold market which is also an inflation hedge. Basically the silver market is around one hundredth of the size of the gold market so it is possible for a very large player to dominate that the silver market to its advantage.
Even the richest private individuals or oil sheikhs would fail to control the gold market which is simply too large. Silver is another matter, and actually 28 years post-Hunt nothing much has changed. Silver is still a tight market where a surge in investment demand could produce violent price changes.
But it says something about the silver market collapse that the Hunt’s precipitated – when central banks pulled the rug from under their margin trading – that silver is trading today at around $18 an ounce, still down on its $54 peak almost three decades ago. Confidence has still to rebound and investor demand for silver is a tiny fraction of the demand for gold, although it is growing strongly.
I do not think we will see another cornering of the silver market. But the inflation protection story that originally caused the Hunts to invest in silver in 1973 is another matter entirely. Silver has moved up in the 2000s alongside gold.
But the silver-to-gold ratio has a long-term average of 15 and not 52 as it stands today, and that price gap should now close, along with the gold-to-oil ratio. Bring silver back to its long-term average ratio to the gold price, and restore gold to its long-term ratio to the oil price, and silver will be five times higher in value – with no further increase in the oil or gold price.
Yet if the Hunt saga offers a single lesson it is to avoid margin trading in precious metals. For one thing price movements can be far too volatile to make this worthwhile, for another it leaves you vulnerable to lenders. And just remember that the Hunts would have been brilliantly hedged against inflation if they had not got greedy and borrowed too much. That was their real error, ignoring the central banks which spiked the silver bubble by cutting off credit.
It could be that the next Hunts are rich families living in Arabia who decide to buy silver as a protection against rising global inflation. Petrodollars have historically found their way into precious metals and after all, the Hunts’ co-investors were Arabs and history does have a habit of repeating itself.
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MoneyWeek says today:
Michael Hampton, who is the best trader I know, uses all sorts of cycles and technical indicators in his work and is continually looking for fractal (repeating) patterns. Among other things, he has what he calls his simple ‘ten for’ rule. Let me explain.
He argues that a 1970s dollar had about ten times the value of a 2000 vintage dollar. For example, the S&P averaged around 100 in the 1970s. It is over 1,000 this decade. Similarly the Dow averaged around 800-1,000, while for the Noughties that figure is around 10,000. Gold began the ‘70s at $35, it began the ‘00s at almost $300.
By the same reckoning, he argues that if gold went to $850 last time, it could spike to $8,500 this time.
He uses the same argument for oil. It went from low single-digits to $13 by the end of the 1974 oil crisis. Now oil has gone from $10 to over $130. By the end of the decade oil went from $13 to almost $40. So Mr Hampton, not unreasonably in my view, has a possible eventual target of $400 for oil (which he sees by 2012-13, by the way).
Comment by peterjcooper — June 11, 2008 @ 1:56 pm
That would be $270 as a peak price for silver!
Comment by peterjcooper — September 28, 2008 @ 11:08 am