"Fundamentals & Manipulation of the Silver Market" - Transcription
David Morgan, Precious Metals Analyst, Silver Investor
Audio Interview, February 5, 2001
Editor's Note: We have edited the interview in this transcription for clarity and readability. Mr. Morgan has approved the changes. The original real audio interview may be heard on Financial Sense Newshour's Ask The Expert page.
JIM: Joining me on the program is David Morgan. Mr. Morgan has a BS in Engineering and a Masters in Business. David has been a private economist and precious metals analyst for over 20 years, and currently hosts Silver-Investor.com. He also adheres to the Austrian School of Economics. David has written numerous articles on precious metals and contributes to Gold-Eagle.com. David, welcome to the program.
DAVID: Thank you, Jim.
The Demand Side of Silver
JIM: You know Dave, it's been a long time since we've seen a bull market in silver, nearly two decades. I wanted to begin our conversation and talk about the fundamentals of the silver market. Let's start out with the demand side for silver today.
DAVID: That's a good place to start. As most analysts know, and a large part of the public as well, the demand for silver has exceeded the mine supply for over 10 years now, over a decade. On an average basis the short fall has amounted to about 150 million ounces of silver per year. Over the past decade the demand for silver has been about 1 and 1/2 billion ounces above and beyond what we're capable of mining out of the earth.
JIM: Where is that demand coming from?
DAVID: Well Jim, several areas. Silver's a very unique element. It reflects light better than any other element. It is also a very good conductor of electricity. In fact, it's the only element that as it corrodes, (silver does oxidize slightly), it still conducts nearly the same amount of current due to oxidation of silver, whereas with other elements that's not true. Basically, I like to jokingly say, but it's also the truth, "Silver is one of the best technology stocks you can buy." Silver is used not only in photography, which is about 28% of the off-take of silver, but there are patents filed with the US Patent offices for a new use of silver on a weekly basis. There are more and more uses for silver all the time, and the public isn't aware of these. Some of them are small applications, but some of them are not so small. For instance, in just the battery development area, with a lot of the power tools that carpenters use these days, these little power sources are what they plug a battery in.
JIM: Sure, power screwdrivers and things like that.
DAVID: Exactly, a lot of those power tools use a silver battery. So, the applications are so numerous, it would take the whole program to name them all. Photography, of course, is one. I'm sure you're going to ask me about the bearish argument about digital cameras. We will certainly address that. But the applications for silver that are coming on board now, that I think have broad reaching implications, are the bacterial properties.
Silver kills bacteria and it's a clean way to do it. For example, in a water supply you can use silver to filter water. Most of the large municipalities in this country, and across the world, use a chemical basis of some type. I understand it's more like parts per billion, but we're still talking about chlorine, or some toxic chemical that's in the system, whereas with silver you don't have that problem whatsoever. These applications are being pursued more and more. For example, silver is being used in the place of chlorine for swimming pool applications. Now, I'm not saying that all the pools in the country are going to go to some kind of silver filtering system. What I am suggesting is that the properties that silver possesses will be utilized more and more in the medical and in the health applications. I can foresee a day where a lot of the municipalities populations will demand some type of silver or some type of non-toxic filtering system.
The list just goes on and on and we can discuss as many as you wish, but the idea is very sound. Every week there is another patent applied for with some new use for silver that people don't think about. They just take it for granted. The quality of life that we have today would not be the same without silver.
The Supply Side of Silver
JIM: All right, let's take a look at the other side of the equation, which is the supply side. We've been running deficits, but a lot of the supply of silver that's been entering the market isn't coming from primary silver producers. What I mean by primary, David, is companies that are just purely silver companies. A lot of silver comes as a by-product from non-primary producers. Why don't you address that for a moment.
DAVID: Yes, I certainly will. And you're of course, correct, and I'll try to elaborate. The silver mining industry is almost at a standstill. Of course there are some primary silver miners, but very few of them remain viable. For example Sunshine Mines, which is very close to where I live, is under reorganization. I'm afraid it's going to fail. I remember when the stock was at $6.00, I remember when it was at $10.00. Right now it's at 9 cents. I just checked the price today. The primary silver producers are unable to make a profit at a $5.00 silver price. Now there are a few silver mines here and there, not in North America, where you can mine silver and probably squeak by at $5.00 US.
Silver as a Byproduct
The reason that the price is only hurting the silver primary mines is because, as you've said, most of silver comes as a by-product. The by-product is from copper mining, zinc mining, lead mining and gold mining. In those areas, the 70% of the silver that is produced out of those other mining activities, those miners look at it in a completely different way, than a primary silver miner. If they're mining copper, and they produce silver as a by-product, they look at it as a slight bonus, and they take a credit. If they get X amount of silver out of the ground, and the primary resource is copper, and that is what they are in the business to mine, they will sell the silver right on the spot market for whatever it brings regardless of the price. Then they will take that money and apply it to the mining cost of the primary element that they are after, which is copper. That is one of the fundamentals I believe that has helped to keep the price lower than I believe it's fundamental or its equilibrium price should be.
Wall Street's Argument Against Demand
JIM: Now, before we get to the price of silver itself, let's address this issue that Wall Street is always talking about. With the advent of the digital camera, many Wall Street analysts are making the argument that the demand for silver will disappear.
DAVID: Yes, that's a bear's great argument. As a bull, it's hard to be totally objective about it, but I'll try and I'll give you the answer to that. First of all, to say that digital will not cut into silver usage, would be a misrepresentation on my part. However, it hasn't yet. The reason I say this, is that I'm going pure and simply by the facts. Kodak is the largest photo company in the entire world. All you have to do is study Kodak to understand what digital's impact has been so far.
Now, what you will find is that it has had no impact on the amount of silver used. The overall increase of silver usage in photography, specifically Kodak, has been up to 5% per year for the last ten years. The Silver Institute did a study on its own regarding digital cameras. Their study showed that there would be an impact that could be noticed in about 5 years. So if you add 5 years to the present day, about 2006, there might be some noticeable impact with the digital camera. But, as far as today goes, Kodak is not going into the digital-only camera business. I know that there is quite a few around and it's hard to get away from the emotional aspect, but if you look at the numbers only, the projection for Kodak for the following year, is to increase the silver halide usage above and beyond what was used last year. And this has just been the trend. Even with the downturns in the economy, you can see that the photography industry just keeps chugging along at the small, yet steady, increases in silver film usage.
And I also believe that in a strong economy worldwide, the numbers don't show that it tends to increase, but it does show that it doesn't tend to decrease. The argument that the bulls make, and I believe it, is that most people will not go out and spend $1,000 on a computer and a digital camera for $100 to $200 to put all their photos on their computer, view them, and print them out on their printer, when they can go out and get a throw-away camera for $7.00 and take 35 mm photograph and have it that way. I totally believe it may have an impact, but I don't think it's going to be until the great silver crisis has carried us through a big price explosion.
The Manipulation of Silver's Price
JIM: Let's look at today's price of silver at 4.69. We've had a situation where we've had a supply deficit for well over a decade. Yet its price continues to decline or remain the same in spite of this deficit. If we were to take that same situation and apply it to energy, platinum, palladium, or electricity, you would have exploding prices as we've seen in natural gas and oil. David, why haven't we seen that in silver?
DAVID: That's the big question. That's the fundamental question that I've racked my brain over for quite a while, and finally have come to this conclusion. I've just written an article on my website, www.silver-investor.com, called "Silver in 2001." It's a two-part article and I've only written the first part. It deals with what you've just said. The basic economic principles are always adhered to. Although there can be anomalies for a short period of time. You cannot have an asset of any class, be it corn, rice, or automobiles -- I don't care what the commodity is -- have a decreasing supply and have the price go down. You cannot have a constant supply, the demand increasing, and the price go down.
In the silver market, you have a decreasing supply, an increasing demand at the same time, and yet the price adjusted for inflation is probably at the lowest its been, ever. So that alone, if you're thinking at all, would tell you that something is not right in the silver market. What I've learned is, the leasing activity that's been taking place in the bullion banks has been able to supply silver from the above-ground stock pile which stood at roughly at 2 billion ounces a decade ago. That silver has been loaned or leased out to the users. The users have taken the silver and used it for all kinds of applications that we discussed earlier. That silver is gone. When these banks demand the silver back, there won't be enough silver to be returned to these bullion banks. And that's going to cause a huge explosion in the price.
JIM: Now, we've got this situation today. We've got diminishing supply, rising demand, prices remaining in a narrow range, and yet you just don't see a price increase. For example, gold is traded at $2.00 or $3.00, or within a $5.00 trading range. You normally do not see this in the commodities market. If you take oil, corn, natural gas, any kind of commodity that has a variegating price chart, you do not see that in silver. It's almost like someone is keeping the price of silver in such a narrow range that it does not generate any interest by investors. That would imply manipulation.
DAVID: Yes, it does. I mean what I stated earlier. And what you're saying, Jim, is absolutely true. It can't be otherwise. The situation has lasted for so long because of the way that the futures market works. I'll try to make it simple. It's rather easy to understand. You'll hear all these talking heads on CNBC, and other market analysts that will give you these big explanations on why the market went up or down on a given day, or what the interest rate is going to do to the market overall. A stock or commodity goes up because there's more buyers than sellers. A stock or commodity goes down because sellers than buyers.
So having said that, it implies that there are more sellers than buyers in the silver market. Now that seems rather odd, because I just told you a while back, that we've got this huge demand that keeps increasing, and we've got a short fall that has to be made up by above-ground supplies. But, if you study the facts, you will find that there are huge short positions in the commodities market. The commodities market doesn't care for a while if it's real silver or paper silver.
Most commodities contracts are never, ever taken delivery upon. In other words, 95% of all paper trades that take place in any commodity -- corn, wheat, gold, silver, platinum -- it doesn't matter. It could be anything in the financial market -- T-Bonds, T-Bills -- any of those markets, about 95%, they are just paper trades. These are speculators going against commercials, or just people in general going against larger entities. Either side is allowed to trade from either side, as you know. All of that trading gets resolved at the end of a month by a statement, or when they sell or buy with a statement that's a credit or a debit to their account in whatever they're trading. If you're trading in Japan it's going to be in yen. If you're trading in the US, it's going to be in dollars. But what has happened, if you look at the silver market on the commodities exchange, is interesting. You see a few years back, there was 260 million ounces of silver. Today you see there's 95 million ounces of silver. So what that tells you is that there has been an off-take right off of the COMEX in silver. This again goes to the basic core fundamentals that I keep preaching. That is, the overall silver market is getting very skinny as far as actual physical silver remains. In fact it's so small, that if Warren Buffett decided to double his position, there wouldn't be enough silver on the COMEX right now to fulfill that demand.
JIM: I want to come back to this point and also the role of the regulators in the short position.
~ Break ~
JIM: David, we were talking just as we went into that break, that the stock pile of silver at COMEX has gone from over 260 million ounces down to about 95 million. Warren Buffett bought about 120 million ounces when he discovered the price of silver exploded. I want to talk about the early 80's when people remember the Hunts were trying to corner the silver market. Basically the commodity exchange put a stop to that. And yet today, we have four huge short positions on the COMEX, that #1, possibly they're so huge that the annual silver production couldn't fulfill it, #2, we've got regulators that have allowed it, and #3, people that are buying silver contracts that want to own it, that are long silver, not short silver are having to post margin beyond the price of silver. I wonder if you might cover that.
DAVID: Yes, I can. First of all, Warren Buffett bought, 129 million ounces of silver. What I'm saying is exactly right. There's more silver sold short on the commodities exchange than exists in the world. I'll stop here at this point, to make a very important point to any listener. They can go to my website. My website is set up in two sections. One, it treats silver as a commodity and the bottom section treats silver as money. Just treating silver as a commodity only, they can go and verify from my site. We have lots of links to research and substantiate what I'm saying.
JIM: David, why don't you give out your website. We'll come back to it, but give it out now.
DAVID: OK, it's www.silver-investor.com Getting back to the point. More silver is sold short on the COMEX than exists. I think there should be a law against that. How can you sell more of something than exists? That's basically what's taking place here. There's a fellow, Ted Butler, and some of the listeners may be aware of his work, ( I have a link to his work from my site), who has written the COMEX of the Commodity Futures Trading Commission several times and addressed this point. I have written as well. And in those cases, they give you the short shrift. They basically say that there's nothing wrong. They don't see it. Basically it's a non-answer. But, it's an explosive situation. As far as what you said on the amount of margin on silver. That's not true at this point.
Right now I'm using the palladium market as an example. That is what I believe will happen in the silver market. In the palladium market, we have a very similar situation as in silver. There's very little physical available, and the paper contracts do exist for the people that want to trade commodities and above and beyond that, for people that actually have to take delivery of the commodity to produce their product. When the palladium market got tight in the Japanese market, the regulators changed the rules. As palladium started increasing in price, the amount of margin (which is the amount of good faith money that's put up on any commodity contract to go long or to buy it) increased. They took it and they changed the rules where you had to put up double the amount of money of what the cash price of what palladium was in order to stay in the futures market. This is totally ridiculous. This shows the absolute gall the regulators have to try to keep the market in a certain range or position where they can deal with the true fundamentals. Anyone who wanted to buy palladium, that had a futures contract, and couldn't put up double the amount of money that a cash offer would take the product from, is ridiculous. But they did this for a reason. They did it to get rid of as many longs in the market as possible. A similar thing happened in 1980 with the Hunt brothers. They [the regulators] basically changed the rules, and said there could be no more buying of silver. Period. You couldn't buy it on the futures exchange. There could only be sales. They closed the market down and reopened it and only selling existed. As I stated in earlier in the show, when you have more sellers than buyers, the price goes down.
And that's where we're at with silver. We have more sellers, but most of it is paper contracts. So the people that own the physical silver are going to be the ones who come out ahead. And someone that wants to take possession of silver, that might have an option on a futures contract or a contract itself, may find that they have to put up more margin, and are not able to do so. Or they might find a certain special rule taking place, from the regulators that says, if you're not Kodak or Fuji, you're not allowed to have your silver. Maybe, you have to take a cash settlement not physical silver. It's a rather interesting situation, and I believe we're getting closer to it everyday.
JIM: My next question is, What would happen if all of a sudden, people who bought futures contracts for silver, demanded delivery? If enough people did that, there wouldn't be enough supply in the warehouses to make it a good faith delivery.
DAVID: That's correct and that's why the regulators have been notified by Ted Butler and myself. But they just ignore that basic fundamental fact. They just roll their eyes and say that they don't see the problem. I don't know how they can't see the problem!
JIM: Let's take a situation that can maybe exacerbate this whole situation. We have an economy that is starting to decline. We know that silver is a byproduct from things such as copper and zinc. So we could have a further reduction in supply. We know that stock piles in COMEX are dwindling. We have a US dollar that is starting to decline and could go down further. What happens if those events take place and confidence is lost in paper assets, and people start putting money into hard assets?
DAVID: The demand will exceed the supply to such a degree that you won't be able to put a paper price on silver. Mr. Butler, who's a very good analyst, has stated more than once and put it in writing, that he feels that silver can go to $100 an ounce. I don't disagree with that, because the amount of silver that we know exists is roughly 100 million ounces on the COMEX. There is more, certainly there is. How much? I'm not sure. But the two best studies in the world puts it at about 300 million ounces. That's not much silver. We're talking about a billion and a half dollars. That sounds like a lot of money to you and me, Jim. And I'm sure to you and I, it is. But relative to the trillions and trillions of dollars in the world, just look at our balance of trade deficit. It's basically about a week's worth of trade balance. I mean the Chinese could buy up all the silver in the world on a whim. It's absolutely a very, very, tiny market.
Another point I just have to make. There is less silver than gold in the market. That sounds really bizarre. I encourage any listener to go to my website to prove me wrong. Right now, from all we can tell from the best studies on the silver market, there's roughly than 300 million ounces of silver available. And from the same GFMS and CPM studies, there's about 4 billion ounces of gold available.
The question of the week I put up on my website. One of my readers is in a panic about this guy, Edelson, out of Florida. He is saying that gold is probably going to take off under the scenario you just outlined, Jim, where we have a declining dollar and people are losing in the stock market. They're going to be going to a safe haven. They're going to start buying gold. But silver is a fool's game. There is just too darn much of it around! How do I answer that?
Let's assume I'm wrong, which I'm not. But let's say I am. Let's say that this guy Edelson says there's these large amounts of silver that only he knows about. There's 500 million ounces there, 500 million ounces here, and there's 300 million ounces over here. Say India has 500, and there's some in London and Zurich, and he named a couple places in Asia that have a lot of silver. So, I took his numbers, I said he's right, I added them together with what we know from the best studies in the world how much silver exists, and guess what? If we added all his big numbers to the amount that we are told exists, we come out with exactly half the amount of silver that's relative to the amount of gold. In other words, all of his numbers came up to roughly to 2 billion ounces of silver. We know there's 4 billion ounces of gold. I asked my readers, ask that yourself, "What does that tell you? Silver is rarer than gold, even if you take this guy's word for how much silver exists. It is a pathetically small market and is dwindling all the time.
I don't know if you're familiar with Jerome Smith or not, but he was instrumental in getting the Hunts interested in the silver market back in the 70's. He wrote several books on silver. And one of the points he made, that sounds absolutely phenomenal, is that someday in our lifetime, silver would trade at a dollar price greater than the price of gold. When I read that, I thought this guy was off his rocker. But when you start looking at it from today's perspective, with the intensity as I do, right now we have less silver available to an investor than gold, yet the price of silver is about 1/60th the price of gold.
JIM: And we also have silver as an asset that is consumed versus gold which is not consumed. I want to move onto a situation and in short, summarize. Basically we have manipulation in the market in terms of huge short positions on the COMEX. You and Ted Butler have covered this rather thoroughly. I would urge those listening to this program to go to your website, www.silver-investor.com to check the facts out. We also have a similar situation that's taking place in the gold market that's being covered by Bill Murphy and many others associated with GATA. I guess, David, one of the questions I'd like to ask is: You can't manipulate something that you have more demand than there is supply, indefinitely. #1, What could be a situation that triggers this? #2 Does this imply or could it imply one of the greatest financial crisis we may face?
DAVID: Yes, absolutely, that's what worries me a great deal. But what will be, will be. Yes, you cannot have this situation indefinitely as you've said. Basically, under the scenario I see, it's going to be 1979-1980 all over again. Except this time, there's not going to be a Paul Volker to come to the rescue. The government is going to have to go back to some value-based currency, either silver or gold or some kind of commodity base, something's that real. The amount of dollars that are printed are not going to be able to handle the situation. As far as the triggers goes, all the classic triggers may set it off. But they already exist. The Mid-East tensions are as great as they've been in a long, long time. You've got China threatening Taiwan. You've got oil up triple. And yet the gold and silver markets haven't reacted. That's a very un-classic situation.
Classically, when oil goes up, you'll have a slight delay, a few months or so, then you'll see the precious metals move up. They haven't. You've got large positions in the metals. You've got Warren Buffett taking a huge position. George Soros taking a huge position. Bill Gates is taking a huge position. Yet these markets fail to move on this. You've got a stock market that's declined heavily. Usually, you get a declining stock market and an increasing precious metals price. All these things are taking place, yet the precious metals markets are extremely quiet. I am not talking about platinum or palladium here, which have moved. This is further proof -- just common sense proof -- that these markets are not all that free.
Something's going on, some outside force is at hand. And as I explained earlier, we have more sellers than buyers. But the sellers have only one thing going for them. That's the ability to print paper at will, and the amount to sell paper short in the futures market. The actual commodity is very scarce. What do I truly believe is that there could be some kind of event that takes place to change directions. For example, the US Mint is almost out of silver completely. They had 4 billion ounces of silver just decades ago. The US government mint will have to go out and buy silver on the open market to produce their silver eagles in another year according to their press release. I think there will be some kind of default.
We already saw Handy and Harman unable to deliver on some of their silver contracts. That was very quiet. Unless you're on the Internet or study the market the way that I do, you probably missed that fact. That should have been front page news in the Wall Street Journal. In fact, to be honest, I think the Journal might have covered it on the back pages, I'm not sure about that. That was huge news and should have been on Tom Brokaw or one of the major networks, but it was not. These markets are very interesting as far as what side the mainstream reports.
But what I think will happen is there's going to be a default. Fuji or Kodak aren't' going to get their silver on time or there's going to be some kind of silver that's not .999 fine delivered. Something like that may take place and all of a sudden the authorities may try to keep it hush hush, but Kodak will say, "How long can we say that we have a worker's strike? We can't produce film without silver, what's going on?" It may be sometime before anything happens because the shorts have got such a hold on the market, but they're scared. They know the fundaments as well as anybody. They really don't know what to do. All they can do is put gasoline on the fire, and the longer they delay it, the worse the overall outcome.
I would suggest to any of the listeners, that are half-way interested in precious metals, don't go overboard. Don't put your lifesavings into silver or gold, but definitely take a position, take a physical position. Get real stuff. Put it where it's secure for you, hold on and wait for the ride. Because, as you've suggested Jim, this is going to be the biggest financial upheaval in history once all the facts are uncovered. The public at large is going to be wide-eyed saying, "How can that happen. Who stood up and said something?" A few people who stood up and said, "We did. We wrote the authorities, and this is the kind of answer we got."
JIM: David, Unfortunately, we've run out of time, but why don't you give out your website so our listeners can go to your site, get the facts, get the figures.
DAVID: It's Silver-Investor.com
JIM: David, I want to thank you for joining us on the Financial Sense Newshour, I'd like to have you back next month after you do your extensive study on Part 2: Silver in 2001.
DAVID: Well, thank you very much. It would be an honor.
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