TED BUTLER COMMENTARY

July 1, 2008

THE NEW ERA

By Israel Friedman

(Israel Friedman is a friend and mentor to Theodore Butler. He has followed silver for many decades. He has written articles for us in the past. Investment Rarities does not necessarily endorse these views.)

We are witnessing a new era of world capitalism and economic development. Over the past few decades, a part of the world has shifted to Western style capitalism from state-controlled communism. This is creating confusion over how we should invest for the future. With this confusion comes both new risks and opportunities.

An early benefit of the shift was lower labor costs for manufactured goods. Goods that were made and consumed in the same country were now made elsewhere. A flood of cheap goods were bought, principally by the U.S. (on credit). The developing nations produced the goods and the U.S. paid for them with paper created from debt.

Workers in the developing countries increased their incomes. This seemed a win-win situation; the West got cheap goods created by borrowing and the workers got more income. The workers used their increased incomes to improve their standards of living. They began to buy and enjoy the same goods that their factories were shipping overseas. They bought appliances, electronics and vehicles; and they improved their diets and housing conditions.

This caused an explosion in the demand for raw materials. For the first time in memory, competition for natural resources strained the world’s capacity to produce them. The labor component of the total cost to produce goods was still cheap, but the raw material component started to soar. Currently it’s hard to find a commodity, like energy, food, or metals that’s not in tight supply. Unless people stop trying to improve their standards of living, in both poor and rich countries, it is hard to imagine the demand for raw materials being reduced. This is truly a new era.

That gets us to silver, one of the commodities in tight supply. I am going to tell you why I think silver is the best investment you can make now. This is my opinion and maybe my vision of the future won’t be so accurate, but I speak honestly and from the heart. I practice what I preach so if you know of a better way to invest, maybe you will return the favor and tell me. I don’t think we can learn by listening to what is recommended on TV or in the newspapers.

First, I would like to tell you a true story. In the late 1960’s, before I came to America and became a citizen, a friend of mine in the diamond cutting business in Israel (the business I was in also) decided to sell his factory. He planned to start a new business or invest the proceeds of the sale. He went to his banker for advice and the banker told him that this was a bad time to start a new business and that he should deposit the money in the bank for interest. My friend also went to others for advice and they all told him the same story with some variation. But no one convinced my friend with any strong logic.

Since my friend was an Orthodox Jew, he naturally went to his Rabbi for advice on all matters, including such a life-changing event like selling his business. He was shocked when the Rabbi didn’t hesitate for a moment, but told him immediately that he should invest in oil wells in Texas with the proceeds from the sale of his business. My friend told his family of this and they were stunned with the Rabbi’s advice and sent him back to the Rabbi to get a full explanation. After all, oil was plentiful and the price was very low for what had been a very long time. When my friend asked for an explanation, the Rabbi told him that when he was growing up, the only transportation was horse and carriage. He asked my friend, "do you see any horses on the street today?" When my friend answered no, the Rabbi told him that this was why he recommended oil wells, as this was the fuel for future transportation and improved standards of living. My friend followed the Rabbi’s advice and it paid off for him. His family was eternally grateful.

When it comes to investing in a real asset, it is important that the asset be as cheap as possible. The Rabbi’s advice turned out great. It was helped a lot by oil being priced under $2 a barrel. I think silver under $20 an ounce is like oil was then. Silver is a metal needed to improve the world’s standard of living. It does more different things better than any other metal. There is much less of it left in the world than ever before. At the same time we have billions of new people looking to improve their lives. The competition for raw materials between the people in the developing countries and in developed countries will not end in our great, great grandchildren’s lifetimes. It will only be a matter of how high the price goes from competition.

I think that the current high prices for raw materials confirm this growing competition. I don’t think we are in a bubble in everything that is high-priced. Certainly, prices can correct from time to time, but that doesn’t mean the competition for resources will be over.

One of the surest ways to predict prices for the long term is by valuing the prices between comparable items. When investing, this is the highest form of common sense and logic. If one form of energy becomes too expensive relative to another form of energy, over time they will come into line. The trick is to spot under valuations and allow enough time for adjustment. The most comparable item to silver is gold. This has been true for thousands of years. I say openly that I am a fan of silver and not a fan of gold. Silver is needed to maintain and improve future standards of living. Gold is needed for luxury and emotional reasons. There is less silver than ever before, while there is more gold than ever before. There are many promoting gold, few promoting silver. Silver is for the logical thinker, gold is for the believer. With silver, one relies upon supply and demand. With gold, one relies on bad news. Maybe we get more bad news, but it is hard to live happy like that. Silver is for the optimist, gold for the pessimist.

The one thing I like about gold is its high price. This accentuates the great value of silver. It is the difference in price between these two comparable items that should be of interest to the long-term investor. Then a review of known facts and an application of sound common sense should cause the logical long term investor to run to buy silver. I know my calculations for the future price of silver will sound crazy to most, just like the Rabbi’s advice sounded crazy. I’ll just ask you to remember that all great opportunities seemed crazy at first. If they didn’t seem crazy, everyone would have invested already and there wouldn’t be any great opportunity.

There is 5 billion ounces of gold versus 2.5 billion ounces of silver (some, including Mr. Butler, would say it’s more like 5 times as much). That means that gold should sell for half of the price of silver, or silver double the price of gold. In 20 years, because we consume silver but accumulate gold mine production, there will be, for sure, five to ten times as much gold as silver. I honestly believe that silver must eventually sell for five to ten times what the price of gold may be. It will be many hundreds of dollars an ounce or more.

Gold costs more than 50 times the price of silver today. The difference between where the price is today, versus where it should be, and where it will be in twenty years would shock you. If you were to ask me how and why silver could be so under-priced compared to gold, I would tell you to read Mr. Butler’s explanation of price manipulation. It is the only thing that makes sense to me. We may be in confusing times, but that doesn’t mean we have to be confused about everything. If the Rabbi were here today, my guess is that he would say to buy silver.

Thank you to Mr. Butler for assisting me in writing this and to Mr. Cook for printing it.

A TIMELY E-MAIL FROM A READER

By Theodore Butler

I get many questions and comments from readers. While I read them all, I answer only a few, due to time constraints. I appreciate them all and they do influence what I write. Here’s one that asks questions that I get continuously. This e-mail from Lester B. is unedited.

Thanks for your note, Lester. First, it is easy to confirm that the 4 and 8 largest shorts are short, and the exact quantities they hold short, by studying the weekly Commitment of Traders Report (COT), issued by the CFTC.

Please keep in mind that they have not maintained the same short position for the past ten or twenty years. They haven’t lost money to the extent their short positions would be under water on the price rise from $5 to $20. The big shorts are nimble in trading their short position against the tech funds. I would calculate they broke even despite the big price rise over the past few years.

But they are short now and have a great negative exposure to a price rise here. I don’t think they are either stupid or brave. I think they are trapped. The big shorts don’t want to be short and didn’t plan to be in this position. It evolved out of their trading patterns against the tech funds. Now they find themselves with no one to take their place and they are stuck with their giant short position. They can’t deliver the silver and buying back such a large short position would make the price explode. This is incredibly bullish for the future price of silver. Let me remind you that the big financial firms didn’t plan on getting hammered in sub-prime mortgages either, they just got trapped.

It’s possible they have real silver backing these positions, but it is so unlikely as to be almost impossible. Remember we are talking about an amount of silver equal to all the known silver bullion in the world. This is an amount three times larger than the Hunt Bros. or Warren Buffett ever owned. Their positions couldn’t be hidden from view back then, and it is doubtful that today’s position, three times larger, could be hidden.

I know there has been recent commentary that the Chinese may have such silver, but there is zero evidence backing this theory. These opinions are largely contrived. Certainly, if anyone has proof that such silver exists, they should provide it. Even if such real silver exists, it has already been sold via the short position and can’t be dumped on the market. And it would still be manipulative, since it would be used to control prices through a concentrated position.

The real facts would suggest that if anyone owned such quantities of real silver, they would be interested in seeing the price as high as possible and not keeping it artificially depressed.

There’s no transparency or reporting on the London Metal Exchange’s silver holdings. The COMEX in New York reports warehouse movements. That suggests a slight growth of silver inventories over the past few years. Visible silver inventories have been growing, thanks largely to the silver Exchange Traded Funds, but this should not be interpreted as a growth in total silver inventories.