William L. Silber: Invest Like Buffett…Buy Silver When It’s Cheap, but Don’t Repeat his Mistake

The global economy in 2019 may seem unsettled because of trade wars and friction in the European Union, but it is nothing compared with the Great Recession. Few worry today about the collapse of the world financial system, a serious concern ten years ago, and the decline of precious metal prices since then confirms that most investors do not expect a return of that sentiment. Which makes it the perfect time for Americans to learn a lesson from the recent history of the country’s most famous investor: Warren Buffett. He bought silver after it had collapsed in value but left more than four billion dollars on the table by selling too soon. 

Buffett is a contrarian, making investments that are unpopular and waiting for them to return to favor. He says: “You pay a very high price…for a cheery consensus…pessimism drives down prices to truly attractive levels.” This approach suggests that now is a good time to buy precious metals and to keep them for the long haul. Gold and silver are not popular today, but they should be viewed as insurance policies for everyday Americans. Both metals work when nothing else does, like during the Great Recession, when silver quadrupled in value between 2008 and 2011, and gold rose by 250 percent. Those increases mirrored the performance of precious metals 30 years earlier, in 1979, at the peak of the Great Inflation, when fear of runaway consumer prices had taken hold.

Warren Buffett, CEO of Berkshire Hathaway, bought silver in 1997 because it was cheap. The white metal had dropped more than 90 percent from its record price of $50 an ounce in January 1980. It was almost twenty years after Paul Volcker, Chairman of the Federal Reserve System, had cured the inflationary spiral that had griped the U.S. economy and Buffett pounced. He bought at the right time but sold much too soon and said, “I bought it very early and sold it very early.” Buffett’s experience provides guidelines for how to see precious metals today.

Buffett’s purchase of more than 100 million ounces of silver, about 25 percent of the world’s annual production of the white metal in 1997, was deeply out of character. The white metal did not belong among his investments. He had prided himself on picking companies that are “understandable, possess excellent economics, and are run by outstanding people.” Buffett traditionally dismissed owning assets like precious metals that “will never produce anything, but that are purchased in the buyer’s hope that someone else…will pay more for them in the future.” His least favorite investment is gold which he said would “remain lifeless forever.”

The CEO of Berkshire Hathaway gave silver a reprieve because the white metal is a cross between precious and industrial, a store of wealth for millions and productive in electronics and medicine. He explained his reasons for the investment, which totaled about two percent of Berkshire Hathaway’s portfolio: “I concluded that a higher price would be needed to establish equilibrium between supply and demand.” Buffett liked silver because annual consumption by industry outpaced mine production.

And Buffett was ideally positioned to benefit from silver’s low prices. The Berkshire Hathaway CEO had long understood the power of patience, having told his stockholders when he first bought Coca Cola stock in 1988, “Our favorite holding period is forever.” Patience is key to maximizing value from precious metals.

As it turned out, however, Buffett failed to stick to his principles, with serious consequences. An expanding U.S. economy spurred prices to about $7.50 in 2005 and Buffett began to worry about excess speculation. A year later he told his investors at their annual meeting that Berkshire Hathaway had sold all its silver. Buffett said “We made a few dollars,” but he was not pleased. Berkshire had earned about $275 million on an investment of $560 million in 1997, about a five percent annual return over the eight years, less than they would have earned investing in U.S. Treasury bonds. Buffett’s partner, Charlie Munger deadpanned, “I think we’ve demonstrated our expertise in commodities, if you look at our activities in silver.” Buffett added “We’re not good at figuring out when a speculative game will end.”

He did not realize the party was about to begin.

On September 15, 2008, Lehman Brothers filed for bankruptcy. It was the largest Chapter 11 filing in American history, and turned a mild recession into the worst financial crisis since the Great Depression. The failure destroyed trust in financial assets, triggered panicked withdrawals from money market mutual funds, until then considered the equivalent of cash, and forced the U.S Treasury to guarantee their safety.

The exploding financial chaos eventually sparked gold prices to an all-time record of $1,900 an ounce on September 5, 2011, an increase of 250 percent in the three years since Lehman’s collapse. Silver hit $42.92 that same day, for a 400 percent increase, almost twice the move in gold. Buffett’s uncharacteristic impatience, therefore, cost him dearly. Had Berkshire Hathaway sold at $42.92 on September 5, 2011, well below the $48 crisis peak, he would have made $4.2 billion on his investment of $560 million. His 14-year silver speculation would have earned a respectable 16.5 percent annual return.

No one expects to sell at the top so precious metals should remain in an investor’s portfolio forever, just like Warren Buffett’s Coca Cola. His allocation of two percent to silver makes sense — not too much to cause insomnia, but enough to provide for food, clothing and a driverless car during the next crisis. Today, we have recovered from the Great Recession, and precious metals are out of favor, a prime time for a contrarian purchase. Silver has declined to about $15 an ounce, one-third its 2011 peak, so it is relatively cheap to insure against the next financial upheaval. Once you’ve bought it, don’t touch it. Selling would be like cancelling insurance after an accident.

William L. Silber is the Marcus Nadler Professor of Finance and Economics at New York University’s Stern School of Business. His many books include When Washington Shut Down Wall Street (Princeton) and Volcker (Bloomsbury). He lives in Teaneck, New Jersey.

William L. Silber on The Story of Silver

SilberThis is the story of silver’s transformation from soft money during the nineteenth century to hard asset today, and how manipulations of the white metal by American president Franklin D. Roosevelt during the 1930s and by the richest man in the world, Texas oil baron Nelson Bunker Hunt, during the 1970s altered the course of American and world history. The Story of Silver explains how powerful figures, up to and including Warren Buffett, have come under silver’s thrall, and how its history guides economic and political decisions in the twenty-first century.

Why did you write this book?

In 2014 Bunker Hunt died and when I told my children – who had worked in finance all their lives—they thought Bunker was one of the guys who kept hitting the ball into the sand in my Sunday golf group. Right then I knew that I had to write this book to at least tell the story of the greatest commodities market manipulation of the 20th century – one that was perpetrated by the larger than life Nelson Bunker Hunt – the richest man in the world who ultimately went bankrupt trying to corner the silver market with his brothers, Herbert and Lamar, in the 1970s. The Hunts drove the price of silver to a record $50 an ounce in January 1980 and nearly brought down the financial markets in the process. But the Hunt brothers were not the first nor the last to be seduced by the white metal. In 1997 Warren Buffett, perhaps the most successful investor of the past fifty years, bought more than 100 million ounces, almost as much as the Hunts, and pushed the price of silver to a ten-year peak. In 1933 Franklin Delano Roosevelt raised the price for silver at the U.S. Treasury to mollify senators from western mining states while ignoring the help it gave Japan in subjugating China. Was FDR’s price manipulation in the 1930s less criminal than Nelson Bunker Hunt’s in the 1970s? Reading this book will let you make an informed judgment and it will also show that the white metal has been part of the country’s political system since the founding of the Republic. Perhaps the most famous speech in American electoral politics, Nebraska Congressman William Jennings Bryan’s “Cross of Gold” sermon at the 1896 Democratic convention, was all about silver. Bryan’s cause, the resurrection of silver as a monetary metal, aimed to rectify the injustice perpetrated by Congress in the Crime of 1873, which discontinued the coinage of silver dollars that Alexander Hamilton had recommended in 1791. Thus, the Story of Silver spans two centuries and is woven into the fabric of history like the stars and stripes.   

Why did Bunker Hunt become obsessed with silver in the 1970s?    

A member of the right-wing John Birch Society, Bunker became the richest man in the world at age forty in 1966 when oil was discovered in Libya where he owned the drilling rights. His ultraconservative politics made him distrust government and its paper currency and favor real investments, such as oil, land, and racehorses. The Arab oil embargo in 1973 provoked an outburst of inflation and Libya’s Muammar Qaddafi nationalized Bunker’s oil fields, forcing the Texan into precious metals to protect against the declining value of the dollar. He bought silver, rather than gold, because he thought the yellow metal was “too political” and “too easily manipulated” by outside forces. Bunker worried that central bankers could sell their massive gold reserves and depress its price. Silver, on the other hand, benefited from favorable fundamentals: the demand for the white metal by industry, for use in electronics, photography, and medicine, exceeded mine production by nearly 200 million ounces a year (Warren Buffett invested in silver in 1997 for the same reason). Moreover, in 1973 the price of silver was cheap relative to gold. The price ratio of gold to silver had been about 16 to 1 for a century before the Crime of 1873, meaning that it took 16 ounces of silver to buy an ounce of gold. In 1973, before Bunker began his accumulation, the price ratio was almost 40 to 1. Bunker thought silver’s industrial uses should have boosted its price to where only 5 ounces of silver were needed to get an ounce of gold. Bunker picked 5 to 1 because it was lower than 16 to 1 but he could have gone further. In ancient Egypt silver’s scarcity and medicinal uses had made it more valuable than gold.   

Did the Hunt Brothers really manipulate the price of silver?

The Commodity Futures Trading Commission (CFTC) argued that during the second half of 1979, the Hunt brothers and their Arab collaborators coordinated a scheme to drive up silver prices in the futures markets by purchasing over 200 million ounces of the white metal, more than the combined annual output of Canada, Mexico, Peru, and the United States, the four largest noncommunist producing countries. They pressured the market by controlling more than 40% of silver in exchange warehouses and by taking delivery of almost 50 million ounces of bullion. But the alleged manipulation was not the classic corner of futures markets, where the longs prevented the shorts from delivering. As silver prices accelerated in December 1979, for example, even the CFTC said that the shorts “anticipated no difficulties in making delivery on their positions.” Moreover, the Hunts denied manipulative intent, dismissed any coordination, even among themselves, and justified their demand for silver as a hard asset to protect against global risks in the second half of 1979, when inflation reached double digit levels, Iranian terrorists invaded the United States embassy in Teheran and seized American hostages, and when the Russians invaded Afghanistan.  Disentangling the impact of the alleged manipulators from legitimate speculation took extensive litigation in this case. In a civil trial in 1988 a jury easily concluded that the Hunts conspired with others to manipulate but disagreed about the impact on prices. The jury had to distinguish between the defendants’ accumulation and the unsettling news of 1979. The CFTC argued that gold prices reflect political and economic turmoil and silver increased twice as much during 1979, providing a benchmark for damage calculation for the jury. But that ignores the historical evidence that the white metal is normally twice as volatile as the yellow. For example, during the European debt crisis following Lehman’s bankruptcy in 2008, silver rose 400% and gold increased by 250% and none of that disparity came from manipulation. That evidence came too late to exonerate the Hunts.  

How did FDR’s silver subsidy help Japan subjugate China in the 1930s?

During the Great Depression, after the price of silver hit a record low of 24¢ an ounce, Democratic Senator Key Pittman of Nevada, the powerful chairman of the Senate Foreign Relations Committee, urged President Roosevelt to reverse the Crime of 1873 and restore the white metal’s full monetary status. In exchange, Pittman promised the support of fourteen senators from western mining states for Roosevelt’s controversial New Deal legislation. FDR agreed and responded with a series of purchase programs for silver by the U.S. Treasury that ultimately doubled the price of the white metal. The higher price attracted silver from the rest of the world, especially from China, whose currency was backed by the precious metal, and ultimately forced China to abandon the silver standard when that country was most vulnerable. It was 1935 and China, led by American ally Chiang Kai-shek, faced an internal threat from Mao Tse-tung’s communist insurgents and an external threat from Imperial Japan. Roosevelt’s Treasury secretary, Henry Morgenthau, worried that China’s insecure government, weak economy, and susceptibility to Japanese aggression made her especially vulnerable to the dislocations arising from American silver policy. Morgenthau was right to worry. Roosevelt’s pro-silver program to please western senators helped the Japanese military subjugate a weakened China and boosted Japan’s march towards World War II, demonstrating the danger of formulating domestic policy without considering international consequences.  It is a cautionary lesson for putting America First today, especially since the fallout from such narrow-minded policymaking may not materialize until it is too late, just like in the 1930s.

Was the Crime of 1873 really a crime?

The Crime of 1873 refers to legislation passed by Congress on February 12, 1873, negating Alexander Hamilton’s favorite law, that both gold and silver be monetary standards in the United States, and establishing gold as sole legal tender for all obligations. The new law omitted the free and unlimited coinage of silver dollars at the mint, an option since 1792, and restricted the legal tender status of subsidiary silver coins, such as dimes, quarters, and half-dollars, to five dollars or less. The U.S. Constitution allows Congress to “coin money” and “regulate the value thereof,” so no legislator voting for the act technically committed a crime. The allegations of impropriety arose because few people realized the full consequences of the shift to gold when the law was passed. Moreover, Senate Finance Committee Chairman John Sherman, who introduced the legislation, not only failed to sound the warning bell but also soft-pedaled the bill despite knowing its importance. Sherman’s removal of the silver dollar from the Coinage Act of 1873 eroded the value of the white metal, cutting its price in half by the mid-1890s, and altering the course of American history. Twenty-five years of price deflation during the last quarter of the 19th century increased the burden of debts like mortgages which remained fixed in dollar terms even though home prices declined. The drop in wages and agricultural prices launched a generation of social combat, pitting “silverites” against “goldbugs,” debtors versus creditors, and midwestern farmers against East Coast bankers, all combining to darken the political landscape like a dust storm. Many consider L. Frank Baum’s children’s story, The Wonderful Wizard of Oz, which has entertained millions since it was published in 1900, an allegory of the contemporary class warfare. William Jennings Bryan capitalized on the social upheaval, captured the Democratic nomination for the presidency in the 1896 election with his Cross of Gold speech promoting the monetary status of silver and easier credit. Bryan lost to William McKinley, leaving silver a second class monetary metal until Key Pittman and Franklin Roosevelt joined forces to rescue the white metal in the 1930s.  

Should investors own silver today?

The worldwide experiment in fiat currency, pure paper money, that began on August 15, 1971, when President Nixon suspended the right of foreign central banks to convert dollars into gold, almost failed at the start. The newly designed freedom from precious metals allowed America’s central bank, the Federal Reserve System, to deliver easy credit in response to political pressure, spawning the Great Inflation of the 1970s and nearly destroying the U.S. dollar. But the chaos unleashed popular support for making price stability the primary objective of an independent central bank. Since then, central bank independence throughout the world has replaced gold and silver as guardian of the currency. And if central bankers do their job that arrangement will continue, but public support can evaporate, undermining banker resolve. The U.S. Congress, for example, can abolish the Federal Reserve with a simple majority vote, suggesting that America’s central bank might run a printing press when rising interest rates bring an avalanche of protest to Capitol Hill. The Federal Reserve has survived the fifty-year trial of fiat currency, but that period is less than a heartbeat in world history. The Soviet Union’s experiment with communism challenged America for world domination for the better part of the twentieth century before expiring like the worthless paper currency of Germany’s Weimer Republic. Central bankers remain on trial, and the uncertain verdict sustains the ancient role of gold and silver as storehouses of value in the new millennium.

William L. Silber is the Marcus Nadler Professor of Finance and Economics at New York University’s Stern School of Business. His many books include When Washington Shut Down Wall Street (Princeton) and Volcker (Bloomsbury). He lives in Teaneck, New Jersey.