Hunt for Silver – Greed, Speculation and Panic
There have been many infamous cases of rampant speculation in commodities, but the one involving Hunt brothers and their efforts to corner the Silver market in the 1970’s stands out for many reasons. It was a perfect storm, a confluence of multiple factors: geopolitics, inflation, speculation, lax lending standards, regulation, bailout, and bankruptcy. I had read about the Hunt brothers’ saga many years ago, but recent headlines jogged my memory and I decided to revisit it, and its retelling seems appropriate for our times and might have some lessons.
We are living through interesting times again. There is a lot of talk about “Energy Transition and Critical Minerals” and commodities: Silver, Nickel, Copper, Lithium etc are grabbing headlines. Investing in Solar Power is a rage today across the globe and according to a report from the Silver Institute:
“One of the most important industrial uses for silver, alongside electronics, is in photovoltaic (PV) cells, which are the building blocks of solar panels. Silver pastes are a critical part of PV cell manufacturing, where they form a conductive layer on both the front and rear sides of silicon solar cells. Solar PV is hugely important to future silver demand. A recent report from the World Bank1 forecasts that by 2050, consumption of silver in energy technologies could grow dramatically, reaching a level equivalent to more than 50% of current total silver demand, the largest proportion for any non-battery metal. More than 95% of this increase is due to an expansion of solar PV power generation.”
At the same time metal commodities seem to be in the news for wrong reasons. In March 2022, a Nickel shorting scandal rocked the London Metal Exchange (LME). A Chinese billionaire, Xiang Guangda, founder of China’s leading stainless steel and nickel producer Tsingshan Holding Group, was faced with a loss of $8 billion after the price of nickel doubled to over $100,000 a ton following the Russian invasion of Ukraine. Xiang had staked a sizable amount of his personal fortune shorting nickel, only to see the price of the metal surge to as much as 111 percent. This should have technically bankrupted him, but he had powerful friends in Beijing and the LME is owned by the Hong Kong Stock Exchanges and Clearing since 2012. These two facts no doubt influenced the LME’s unprecedented decision on March 8th to suspend nickel trading in a move not seen since 1985, cancelling 5,000 nickel trades that had been executed that day, and wiping out $1.3 billion of profit and loss on deals, impacting the likes of JP Morgan. The next day Shanghai’s Futures Exchange followed suit and also froze nickel trading. According to reports, one of Tiangshan’s brokers narrowly missed defaulting after the LME gave it more time to pay hundreds of millions of dollars of calls. There were also reports of Chinese government backing Xiang and Tsingshan Holding and ordered domestic banks to provide liquidity and loans.
It’s a sense of Déjà vu and has similar patterns to the “Hunt for Silver”.
The Hunt Brothers, Oil and Geopolitics
Haroldson Lafayette Hunt, born in 1889 in Illinois was a quintessential American entrepreneur of the era with a gamblers sense of risk and reward. At the age of 16 he moved west to try his luck and hit the jackpot with everything he did. He moved to Arkansas where Oil was the new buzzword. He struck oil with his very first well and expanded his company, selling it at a handsome profit in 1925. He then proceeded to Florida and profited from the land boon underway. The Texas oil boom caught his attention, and he started leasing lands for drilling in East Texas. Not only was he successful with drilling and finding oil, but Hunt Oil, his new firm would soon find itself to be the leading independent producer of crude oil in America, producing oil from one of the biggest oil fields ever found. HL Hunt joined the league of richest people in the country.
His sons, Nelson Bunker and Herbert inherited his gamblers instinct and continued with oil investments. They travelled around the globe and invested heavily, looking for promising oil discoveries. Unfortunately, for a while, the Hunt luck seemed to have run out as they hit dry hole after dry hole and lost millions of dollars of the family fortune. Then they hit pure gold! They had gambled on Sarir oil field in Libya. Bunker had secured leases on two tracts in Libya designated simply as Concession #2 and Concession #65. Out of a need for cash, he sold half his interest in #65 to British Petroleum, and it was subsequently discovered that the area in question contained the largest oil field ever discovered in history: somewhere between 11 and 13 billion barrels of oil. Bunker and Herbert suddenly found themselves sitting on a $5 billion asset. The Wall Street Journal’s headline on April 26th, 1966, read, “Big Oil Well Discovery Is Completed in Libya by British Petroleum … Dallas Man Has 49% Interest,”
Their luck ran out soon. On September 1, 1969, a group of Libyan army officers overthrew King Idris. Twenty-seven-year-old Colonel Muammar Qaddafi was the new leader, and he promised a new republic with “unity, liberty, and socialism” for the Libyans. He expelled the Americans from Wheelus Air Base near Tripoli and forced the British to remove their troops from Libya. Initially he had no plans to nationalize oil and he let the major oil companies to remain. Qaddafi realized the Libyans needed the technical expertise of the big oil companies, to further develop the oil fields and generate revenue for his country. But things got nasty after eighteen months in 1971 when the Libyan government announced that it was nationalizing British Petroleum’s oil operations in retaliation for Britain’s alleged pro-Iran, anti-Arab activity in a territorial dispute over islands in the Persian Gulf. Thought the Libyans appointed a compensation committee to determine reimbursement to BP and Hunt Oil, it was not expected to recommend payment for oil reserves in the ground.
In June 1972, Bunker Hunt travelled to Tripoli for consultations with the Libyan government. The negotiations went around in circles as the Libyans demanded half of Hunt production from the Sarir oil field, which had been operating jointly with Libya’s state-owned company since the expulsion of British. This was a shrewd strategy from the Libyans. Instead of going after big Oil companies, they were picking out and squeezing one of the smaller American companies to bargain with and then demanding that the others fall in line. It did not end well and on June 11, 1973, Qaddafi announced the nationalization of Bunker Hunt’s half of the Sarir oil field with a jab at the US, “The right to nationalize comes under our sovereignty over our land and we can do whatever we want with our oil.” This was a huge blow to the Hunt brothers and overnight they were transformed from one of the richest in the country to just another millionaire. Bunker was paranoid about inflation and was worried that American government was spending its way to bankruptcy and eroding the value of the dollar, and loss of Libyan oil fields came at a particularly bad time. The first six months of 1973 witnessed the highest rate of inflation since the Korean War, an increase in consumer prices of 8% per annum.
· Then the Hunt brothers saw a “Silver Lining” for their problems!
Cornering the Silver Market
Bunker and Herbert started accumulating silver in 1970, buying 200,000 ounces over the next few years. At the beginning this was just a negligible fraction of their total wealth, but it was the start of what would ultimately become a vast accumulation of the metal. Legend has it that, this craze for Silver began in 1970 when a commodities broker visited Bunkers home. He asked Bunker a simple thought-provoking question, pointing to various expensive objects around the house: “Bunker, do you believe you’re going to have to pay more for these things next year than you did this year?” When Bunker acknowledged the prices would probably be higher, the dealer suggested a solution to the problem at hand: Silver.
But why Silver? Why not Gold?
In the 1970’s owning trading Gold was still illegal in the US. The roots of this law went back to the days of peak Great Depression. Just a few weeks after taking oath, President Roosevelt signed an Executive Order 6102, which outlawed “hoarding”, that is the ownership of gold by any person or entity within the United States. Prior to this, US dollars were convertible into gold on demand, and this restricted the velocity of money in the economy. There was an increasing need to increase the money supply in the economy to get it moving and Roosevelt took the extraordinary step of criminalizing private ownership of gold as one of the steps to decouple the precious metal from the nation’s currency.
At the time, Silver was also cheap, an ounce of pure Silver costing less than half the price of one barrel of oil. It also had industrial uses. Light-sensitive silver halide was a key component of photographic film and with the growth of commercial and consumer photography market, new production from mines struggled to keep up with demand. Apart from being used in Jewellery and Industry, it also was a stable, simple investment tool. If inflation was going to get worse, as Bunker was convinced it would, what better place to allocate paper dollars than the “hard money” of silver?
In 1973, Bunker and Herbert went big and bought futures contracts for 55 million ounces of silver, about 8 percent of the world’s entire supply. But unlike most other traders, Hunts were not executing the futures contracts for speculative profits based on the appreciation of the paper price. They wanted to take possession of the physical silver and accumulated a hoard of 35 million ounces. They were afraid of storing it in their Texas ranches for the fear of US government doing another Roosvelt and seizing their fortune. They hired specially designed 707’s and flew the entire hoard to Switzerland guarded by armed mercenaries. The amount of silver was so vast that six different storage facilities had to be employed to hold all the metal, costing $3 million dollars per year and transporting had cost another $200,000.
As inflation raged through the 1970’s, precious metals did indeed begin to rise, and it turned out to be a remarkably profitable investment for the Hunts. Silver climbed from $1.50 per ounce $6 by the spring of 1974. But the Hunt brothers were not content and wanted to sweep up as much of the world market for silver as possible. Bunker was looking for some big backers and Middle East, flush with petro dollars seemed to be the right place. He travelled to Iran to convince the Shah to back his venture but failed. He went about to set-up a meeting with King Faisal of Saudi Arabia, but he was assassinated weeks before their schedule meeting in 1975. Despite all this, by 1979, the Hunt brothers owned 21 million ounces of physical silver each. They had even larger positions in the silver futures market: Bunker was long on 45 million ounces, while Herbert held contracts for 20 million. Their “Hunt for Silver” was generously funded by many banks. Of the $6.6 billion worth of silver the Hunts owned at the top of the market, their personal contribution was just a little over $1 billion, rest borrowed from over 20 banks and brokerage houses.
“Silver Thursday”, Panic and Bailout
Silver was on a tear. From a spot price of around $6 per ounce in early 1979, the price shot up to $50.42 in January of 1980. For every dollar increase in the price of silver, the Hunts were making $100 million on paper. This led to furore in the market. Film companies like Kodak and Ilford saw costs go through the roof and had to resort to laying off workers. Traditional bullion dealers were losing big, and they cried foul to the commodity exchanges. The jewellery house Tiffany & Co took out a full-page ad in the New York Times (picture above), slamming the “unconscionable” Hunt brothers. They had a valid grouse as Hunts controlled 69% of silver future contracts on COMEX by January 1980.
COMEX decided to crack down and on January 7, 1980, adopted “Silver Rule 7”, which would cap the size of silver futures exposure to 3 million ounces and also changed the margin requirements. Those in excess of the cap were given until the following month to bring themselves into compliance. Chicago Board of Trade exchange suspended the issue of any new silver futures on January 21 and traders were only allowed to square up old contracts. Predictably, silver prices began to fall. Various banks and financial firms that had lent money to Hunt brothers started issuing margin calls, asking the brothers to put up more money as collateral for their debts. Finally on March 27th, 1980, “Silver Thursday” the Hunt brothers finally missed a margin call of $100 million to the brokerage firm Bache, and the market plunged, with silver leading the way. By April 1st, the price of silver had dropped from $21.25 to $10.80, wiping off half of its value in a few days.
The Hunts also dragged their lenders into a crisis, a sizable chunk of the US financial system. Over twenty financial institutions had extended over a billion dollars in credit to the Hunt brothers. Despite warning from the Fed about curtailing their lending to speculative assets, Banks had lent heavily and were in the line of fire: Citibank lent a total of $115 million to the hunt brothers. In addition to Citibank, First National of Chicago lent them $70 million directly and First National of Dallas lent $35 million. Another $450 million was lent by First National of Dallas and twenty-nine other banks to the Hunts oil company, which in turn lent huge sums to the brothers for their silver buying. The banks were also indirectly involved in providing credit to the brokerage firms that allowed the Hunts to buy vast quantities “on margin.” The banks lent to the brokers and the brokers lent to the Hunts. Bache Halsey Stuart, the brokerage firm lent a total of $233 million backed by credit from First National of Chicago, Bankers Trust, and Irving Trust.
On Silver Thursday, a top executive of Bache Halsey, phoned Paul Volker who had recently taken over as the Fed Chairman and warned that if the price collapsed further, Bache would not survive. It had lent more than $200 million to the Hunts, and the value of the silver collateral it was holding was shrinking every day. Volcker and his team began a series of meetings to determine the extent of the Hunts borrowing and how seriously the financial system was threatened. Some of the regulators feared they might be on the brink of a historic panic, not unlike the crash that launched the Great Depression in 1929. Twelve US banks and the American branches of four foreign banks and five brokerage houses had provided the Hunts’ silver-buying venture with more than $800 million in loans, equivalent to almost 10 percent of all the bank lending in the country during the previous two months. The question that the Fed had to answer was, whether a further slide in silver prices would bring down any major banks. First National of Chicago, the ninth largest bank in the country was most vulnerable, having lent the Hunts a total of $175 million either directly or indirectly. If silver prices fell to as low as $7 an ounce, the value of the collateral held by the banks would be worth less than the loans they had made.
Then a new crisis developed. Hunts had bought futures contracts for silver totalling 19 million ounces from Engelhard, the giant international minerals firm. The Hunts lost their bet and delivery was due on Monday, March 31st, and Engelhard was demanding cash for its silver, $665 million. If the Hunts defaulted, the price of silver would fall drastically again, and the entire accumulation of speculative bank loans would crash with it and would start a contagion. The Fed was now worried about a general financial panic. Volcker was in a bind, he could not stand by and let large financial institutions fail and at the same time the Fed could not act, even within its powers to save the Banks given the overall state of the US economy, without causing a political backlash.
Instead, Volcker gave his blessing to another solution. That weekend, quite by coincidence, the Association of Reserve City Bankers was gathering in Boca Raton, Florida, which included leaders of many banks that were exposed to the Hunts. The bankers held an all-night bargaining session with the Hunts and Engelhard representatives. The negotiations led ultimately to the terms for a private bailout, a new loan of $1.1 billion from thirteen banks was finalized, to cover the Hunts old debts and gave them means to settle with Engelhard and stretch out their obligations over ten years and this deal had approval from Volcker with certain provisos. Technically, the Fed did not bail out the Hunt brothers and the banks. No government money was at stake, but practically Volcker saved them by granting a huge exception to the rules.
History matters and it helps to refresh about past incidents and be cognizant of the lessons they have to offer. In the past decade, Institutional Investors with trillions of dollars under management have embraced commodity futures, specifically for what are perceived as critical minerals for the energy future. There are certain similarities between today and the 1970’s: fractured geopolitical environment, inflation, high interest rates, economic turmoil, quest for critical energy, rising political tensions, wars in the Middle East etc. Given the build-up of uncertainties across the globe, it will just take one event to catalyse a crisis.
· In Science, Progress is Cumulative. In Finance, Progress is Cyclical