But They Can’t Do That! – Apr 24, 2009

But They Can’t Do That!
They’re Coming to Take you Away, Ha Ha, He He, Ho Ho, Hum Hum!
By Martin Armstrong (c) April 24, 2009
Former Chairman of Princeton Economics Intl.

Martin Armstrong’s tell all about the corruption in the justice system. (By direct personal experience)

Publish at Scribd or explore others: Business & Economics Research economy justice system

Why Models Are Our Only Hope? – Feb 2009

by Martin Armstrong (c) Feb 2009
Former Chairman of Princeton Economics Intl.

Should we create a model to manage our social-economy?

In the real world, experience counts as the primary attribute in any field. The question we face in the middle of this economic crisis is simply this: “Is there anyone at the helm who has any experience at all?” Can we disregard gathering the experience of those who have gone before us by constantly re-inventing the wheel for every crisis? Wouldn’t it be nice to have gathered a database so when an economic panic took place, and we tried a particular stimulus, the result was a particular effect. Yet for every economic crisis, we seem to start at the beginning retaining no knowledge or experience from the past assuming in our arrogance that that was then.

It is time to start taking advantage of the collective progress of man that has particularly developed during the last Century. We have not merely landed on the Moon, we have developed sophisticated computers to get us there. We have even conquered many forms of disease, also through the process of scientific learning.

Science has revealed that our greatest form of knowledge comes not from book learning, but from hands-on experience. We have even begun to unravel how the human mind works. Now we understand the difference between “book smart” and “street smart” is based upon the simple fact that when we learn only from study, we do not acquire the deeply seeded and critical knowledge base that our mind constructs through all the senses we refer to as experience. When we actually do something, we use all our senses and construct a knowledge base recording all the little nuances that are not always self-evident as being either important or relevant. I could read every book on brain surgery, but would you like to be my first patient? Just as a medical student might have perfect book scores, they must still then start at a teaching hospital working with those who have actual experience.

The Importance of Experience
What has emerged from the study of the human mind is that it takes practical experience in a field to truly comprehend what to do. There are two broad categories of memory as explained by Eric Jensen in his excellent work, “Teaching with the brain in mind.”(ASCO – Assoc for Supervision and curriculum Development (2005)). The two primary types of memories are: (1) “explicit” (clearly formed or defined) that is constructed either learning in a semantic manner (words and pictures) or more episodic (autobiographical or personal experience rather than learning about it second or third hand through books); and (2) “implicit” (implied by indirect means) that includes the reflexive memories and procedural physical or motor type routines like riding a bike, burning your hand, love, and other various experiences. Jensen points out that students that are taught by merely data dumping facts, rarely retain such knowledge id. /pg 132. Jensen pointed out that studies have shown that students who attended class knew only 8% more than those who skipped class. Consequently, this semantic method of knowledge gathering is highly limited. We need something more, to strongly bond within our minds critical knowledge. We need also to invoke the ancient method of apprenticeship of involving other sensory input. It is now understood that episodic memory process “has unlimited capacity” id. /pg 134. This puts flesh on the words “book smart” and “street smart” illustrating that it is highly dangerous to trust the operation of anything to someone who has no real world experience.

Gathering Experience
This is why we need to collect the experiences of mankind and record them to a database that allows human interaction to query “why” events take place and “when” an event should take place, as well as “what” should be the correct response, and “how” should that response be implemented. History repeats because as a society we do not learn for we lack the capacity to acquire real knowledge predicated upon the best possible form of wisdom – experience. If we are afraid to construct a model that incorporates the total global experience of mankind to better manage our society and our economy, then we will be doomed to the insane notion that the economy and our very lives are unpredictable constituting nothing more than a “random walk” like following a drunk down an alley and trying to predict will he bounce-off the wall on the left or right next.
There is no “random walk” through time. Everything is event driven, and history repeats largely due to the fact that given similar events, mankind will react within a set parameter of reactions. Stick your finger in the flame of a candle and it matters not what culture you are from or the language you speak. You will still pull your finger out of the flame.
Understanding there is a Business Cycle

As I have stated many times, there is always a cycle within everything, and that includes the boom and bust swings within our economy that have caused so much political unrest, that it has fueled even the birth of Communism & effected the lives of mankind throughout recorded history. Economic swings have led to wars when a king’s finances were running low, and caused dreams of utopia that influenced Karl Marx (1818-1883) whose ideas have cost the lives of many millions of people.

Cycles may come in different patterns and are at times driven by a convergence of many individual events each functioning separately according to its own cyclical nature. This is simple the very essence of how everything functions throughout life and the entire universe. It is the cyclical nature of life from the beating rhythm of your heart, the cyclical events of the seasons, weather, movement of planets, to even how artificial gravity is created by the cyclical spin. Even the music we listen to must have a cycle or rhythm. Our social interaction we call our economy, is no different.

What Eric Jensen points out is critical to our understanding of our very ability to learn and advance as individuals. This method of acquiring knowledge applies to us as a society. Jensen explains there are differences between how our brain processes either “verbal or spatial information.” When we process written or verbal words in an 8 hour session there was an 80 minutes cycle for cognitive performance while the spatial task of locating points cycled at 96 minutes on average, id./pg. 49.

While there is a genetic foundation for being smart, this accounts only for about half of our intelligence. In fact, part of the brain that deals with discrepancies and is automatically activated when the outcome differs from our expectation. This is known as the anterior cingulate and is the hard-wiring that enables us to learn from trial and error. Jensen also makes it clear that we learn through social interaction. The case in point is the nut-case who is a loner and becomes the serial killer. Social isolation is devastating to one’s health as well, id./pg 95. Even in prisons, solitary confinement absent the social contacts is intended to inflict punishment that is devastating and mentally forces the subject to comply with the demands of the jailer. We are also familiar with the problem of mob behavior that can take the form of peer pressure upon the youths in school or among adults as Communism demanded – turn in your neighbor if he says anything derogatory against the government. These are forms of mental torture imposed by all forms of governments to varying degrees.

Applying Experience to Managing Government

Our knowledge has expanded tremendously in the past 100 years. Yet for whatever reason, we have yet to apply these advances to our social collective economy and to the management of government. We have incorporated computers into science. We now rely upon computers to control traffic in cities, in the air above us, and we even trust computers to land a plane. We can trust computers to create a knowledge base of disease whereby one inputs the symptoms and the computer will give you the likely disease. We rely on Expert Systems in computer programming to record the knowledge base of experience. For example, one could input all the loans ever given by a bank. They can create detailed criteria from social status to job skills and income. A new loan applicant could fill out the same form, and the computer can generate a “more-likely-than-not” analysis of whether the borrower will default.

In medicine, we can map your DNA and more-likely-than-not even tell you that you will develop a particular disease. In fact, laws have been enacted to prevent Insurance companies from using such data, for then they could sell insurance against a heart attack to only those who they know are not likely to have one.

Yet for all our advancement in every field right down to smart bombs, we run our government and our economy as if the Puritans were still in charge and characterize any effort to understand the future of our society as devil worship. The SEC takes the position articulated by its Chairman Mr. Cox when he testified before the House Oversight Committee arguing we should not seek to create any such model; “That is probably an aspiration that we ought not to have.” Why? Should we disconnect all computers from traffic lights, air traffic control, go back to carpet bombing and tell our astronauts to don’t worry about it, you’ll figure out how you get there on your way? What is so wrong about trying to apply technology to run our government and economy? If a doctor can input your symptoms into an expert system and generate a dispassionate list of possible diseases, why can we not do that for society?

We view government like God. We assume someone is in charge. We know not what their master plan might be, but require pure faith to assume everything will work out in the end. We handed out $700 billion to help Investment Banks due to their speculative losses without any explanation of why or how this money was even lost. We are now about to hand out $1 trillion (the total amount equal to the national debt of the United States in 1980 from inception). This trillion dollar expenditure on infrastructure has been dreamed up with no empirical evidence that if we do (x) then the “more-likely-than-not” result will be (y). We cannot afford to act like this in today’s complex world. This amounts to “trickle down” economics that was the basis of arguing against the Reagan tax cuts. We are hoping that spending all this money into economic areas that had nothing to do with the cause, will somehow make the cross-over like a virus and infect the whole economy.

This effort to spend $1 trillion on infrastructure is merely supporting the pork self-interests of government. Just because Roosevelt created the Work Progress Administration in 1935 in response to the Dust Bowl, does not mean that this solution will have any positive effect at all. The government did not have the power to make it rain and unemployment rose from 8% to 25%. Today, many professionals expect a huge wave of inflation – not economic growth. We are coming up with ideas that someone dreams UP, there is no model, and it is “Gee. Let’s try this!”

No serious business would dare run its operation in such a cavalier manner. Is this any way to run the world economy? Unfortunately, others follow our lead. So if the USA makes a major mistake, we will find other nations blindly follow. The proposal to spend a trillion dollars on infrastructure to make the debt bubble disappear is insane. Milton Friedman warned about it and took place during the 1970s – we called it “stagflation.” There was a general increase in prices from the sharp rise in oil, but this “inflation” did not in any way produce economic growth.

To the left, is the last 100 years of fundamentals that are overlaid upon the major Economic Confidence Model. There will always be a boom-bust rhythm. Joseph Alois Schumpeter (1883-1950) observed the business cycle and attempted to explain it by waves of innovation. The invention of the railroad was the internet of 19th Century allowing the efficient movement of goods. The invention of the automobile and the airplane created new waves of innovation sparking scores of other industries to expand as well. The dot.com boom in 2000 was the beginning of another new wave of economic growth. As they do often say, “necessity is the mother of all invention.” As we have economic declines, we often adapt and create new forms of innovation.

We have no idea what we are doing

We have no idea what we are doing. We call upon professional politicians who have learned only in a semantic manner lacking the episodic real world experience. Worse still, we reach back in time to drag forward the Work Progress Administration as a self-serving answer as a solution today, ignoring the context in which it was created, and with no model to see what is the “more-likely-than-not” outcome.

What if we spend all this money and it fails completely to restore economic growth? Confidence in government will collapse. Other countries will hate the United States more. Those people will then be led to blame the US rather than their own governments. This is how war is unleashed. With such serious implication for our children, you would think we just for once tried to stop the nonsense and put our collective knowledge to good use.

With all the billions of dollars being spent, you would think there would be at least someone who had the courage to stand up and say – hey! Maybe we should create our own expert system of government and show every time they raised or lowered taxes, interest rates, regulation, or money supply, this was the result. We do not need partisan claims to support this program or another. We need empirical evidence. One cannot claim he made a scientific discovery by saying “I think!” It either is or it is not.

We can no longer afford to run our social-economy by trial-and-error as if we were some doctor in the Middle Ages yanking out body parts to see if that cures the patient. We cannot afford to manage our social-economy on pretended “book smart” claims while throwing away the collective experiences that forms the real knowledge, wisdom, and intelligence or the human experience. At best, half of human intelligence is genetic. This is why innovation has not always arisen from a single class. We have reached that point in the evolution of mankind where it is time to make that next leap. We cannot afford to throw away the experience of generations that is the essence of all human knowledge as if they never existed. This is like burning down the famous Library of Alexandria in Egypt. This is a profound crime against all of humanity.

Why Models Fail

The very same presumption built upon arrogance that we know everything, creates the inherent reason that causes most models to fail. When we ask a question, there are often two reasons. (1) There are those who are genuinely interested in acquiring real knowledge, and (2) there are others who need to boost their ego and argue that someone is wrong and therefore less intelligent than them, but have no practical experience to offer empirical evidence to support their argument. If we try to create a model under the first approach, we will succeed. If we rely upon arrogance to try to pretend we know of what we speak, we will fail.

There is a middle ground we might classify as (1.5). This is where we may be interested in accumulating real knowledge, but we still deceive ourselves for we begin with a presumption that is not true. A classic example is Heinrich Schliemann (1822-1890) who was a German untrained archaeologist and a rich son of a German Industrialist. He believed that Homer (9th-8th Cent. BC) wrote about actual history in his epic tales of the battle against Troy. At that time, all the academics at the leading Universities in England and elsewhere, had argued that Homer wrote children’s fiction. No one bothered to go out and actually test their theory until Schliemann. They presumed a fact that had no empirical evidence. If you begin from an unsupported presumption, you will fail. It may be unintentional but the motive matters not, for the result will be the same whether it is produced from ego or mistake.

There is a third reason why models fail – (3) the economic evolution process. I have often written that perhaps the father of the Business Cycle is Nikolai D. Kondratieff (1892-1938). At the time that he was investigating long-term economic trends, Kondratieff discovered huge waves of booms and busts in economic activity. He relied upon the economy as it stood at that moment in time. In the 18th – 19th Centuries, about 70% of the economy in the United States was agrarian. This was a much higher number in the Third World and in Russia at that time. Therefore, Kondratieff fell into the third category of error. He started with the presumption that the economy in the future would be driven by this commodity cycle of booms and busts. If the economy evolved and it was primarily moved by a different component, then the model would no longer predict the main overall economy, but only the commodity sector. Therefore, we must understand that a model can still fail by the failure to be able to adapt to changing conditions.

Not to slight anyone, it should be also noted that Kondratieff may have been influenced by another Russian of little fame. In 1922, Professor A. L. Tchijevsky actually published a book: “Investigation of the Relationship Between the Sunspot Activity and the Course of the Universal Historical Process from the Fifth century B.C. to the Present Day.” Tchijevsky established that the 11 year cycle in sunspot activity effected society by gathering evidence from 72 nations between 500 BC to 1922, demonstrating a human excitability defined as migrations, riots, wars, revolutions, and various changes in magnitude. His work may also have influenced Kondratieff insofar as looking at the economy from a cyclical nature. The low in sunspots was 2008.

Designing the Model

Now that we understand the first set of errors that will doom any model, we need to ensure absolute objectivity. To build a scientific model takes absolute clear understanding that separates the dangerous ego inherent in so many people who need to prove themselves right because they lack personal confidence in their own ability. We also must define the scope of the model for that will determine what we can and cannot forecast, understand, and manage. We must keep that personal ego in check and that means surrendering not just the contest to be proven right, but to surrender that temptation to assume anything. It is extremely hard to get to this zone of total objectivity. But this is the only place where a model can be designed. Ironically, it is man’s ego that prevents so many from crossing that line into this state of pure objectivity. This is not a contest or a child’s game. This is a serious matter where we accept that we know nothing and allow the real knowledge to manifest by observation. So few have embraced this state in modern economic times.

Adam Smith (1723-1790) achieved this state, but he did have the Physiocrats to compete against. Smith’s competition, however, was not by argument. He established the understanding of human nature and capitalism by observation creating empirical evidence, not mere criticism. Those who criticize but have no experience bring nothing to the table. Smith observed the real world, how it operated, and produced the findings. Smith did not just offer words of disagreement like the scholars who never spent one day in the field to prove any substance but argued against Schlieman. We need substance and empirical evidence to support words, otherwise it is just rhetoric.

The Scope

Perhaps the first misconception about the Economic Confidence model that I discovered is that it is a model for stocks, or the United States, or gold, or real estate. The truth is something quite different. There is a natural cyclical rhythm to everything in life from nature to mankind himself. The financial instrument that we may be using at the time matters not. Mankind will invest in anything and when there is a shortage of toilet paper, he will run out and hoard it, no different than gold. Therefore, we must realize that the scope of what we are dealing with is not limited to anything in particular, but is the collective behavior of mankind in all nations around the world.

We tend to be also very self-centered. We assume that people see what we see and that leads to great confusion. In other words, the business cycle is not all about “us” or “them” for it encapsulates everything and everyone. For example, the US panic of 1857 was also not a local event. It was an outcome attributed to several local developments, including the defaults of railroads on their bonds that led to the collapse in their stock prices. Many banks had invested money in railroads and subsequently failed. The analogy is not so different than investment banks today. This was one reason that led to the separation between commercial and investment banks. As the railroad bonds were hit, the stocks fell sharply. This caused assets of banks to decline, and people lost their trust in private banks causing runs and widespread bank failures. This led to the first real sharp increase in unemployment that was a rather new product of the age known as the Industrial Revolution. Where under the pure agrarian model, labor was typically slave, indentured servants, or serfs, the Industrial Revolution caused a cycle in employment.

What is overlooked, however, is that the Panic of 1857 was also a global force manifesting as a contagion. The Panic of 1857 in the United States also led to a money-market crisis in Europe. Europeans had been eager to invest in the New World and with major gold discoveries in California in 1849, visions that the streets of America were “paved with gold” was a popular slogan to fuel investment overseas. So, the financial Panic of 1857 became the first real “contagion” that infected Europe after the South Sea & Mississippi Bubbles of 1720.

The next major US panic was also related to worldwide events. The Panic of 1873 began in Vienna, Austria during June that year just eight years after it lost the war with Prussia in 1866. The Austrian financial crisis spread like a contagion causing European investors to sell American assets to cover losses. This led to the collapse of a major Investment Bank, the Goldman Sachs of its day, Jay Cooke & Co on September 18th, 1873. This set in motion a major collapse dubbed “Black Friday” that resulted in the stock exchange closing its doors for 10 days starting September 19th, 1873. By the end of 1873 in just three months, over 5,000 businesses failed in the United States. Tens of thousands came close to starvation. This is where we find the first Soup Kitchens appearing in New York City.
Likewise, the 1929 collapse and the Great Depression were also worldwide events. Herbert Hoover’s memoirs provides the historical documentation for the Currency Crisis of 1931. Virtually all of Europe defaulted on its debt causing the dollar to rise to historical levels because it was still on a gold standard. This led to the collapse in exports and the cries for greater tariffs. This culminated in Roosevelt’s famous confiscation of gold and a near 60% devaluation of the dollar in 1934.

In defining the scope of the model that needs to be created, we cannot ignore the world any more than the world can ignore events in the United States. We must input all economies and markets and realize that every person in every country will respond according to Smith’s Invisible Hand. Currency is like a language. We think and measure everything in the currency of our origin. That means we will invest in China if we can see a profit in our home currency, not the local currency of China.

The 1987 Crash took place because of the formation of G-5 (Group of 5) in 1985 that was organized to force the dollar down, no different than Roosevelt accomplished with his 1934 confiscation of gold and the devaluation of the dollar. The problem was, those in charge had no practical experience. They knew not the repercussions within the global economy. The Japanese had been buying nearly 40% of new debt offerings and they were heavily invested in US real estate. Once the politicians stated they were banning together to force the dollar down by 40%, they failed to realize the complex nature of the economy. They assumed that lowering the dollar value by 40% would allow the US to export more by devaluing the costs of its production. However, that also meant that those who had purchased US debt would lose 40% as did those who purchased US real estate and stocks. Thus, the stock market crashed. People called the brokers asked why people were selling, and they could not articulate why when there had been no domestic change in fundamentals. It was the lack of fundamental news that caused the panic!

Perhaps this helps to understand what is truly necessary to construct a viable model. There is no individual who is capable of making so many major calculations within their head. This is beyond the human capacity only from a standpoint that while the mind could function subconsciously, we lack the ability to query the mind independently on a sustained basis.

Now, hopefully, we can see in our mind how such a model can function. The primary wave structure I have named the Economic Confidence Model is a composite of the entire world economy. This is why we see global markets in fact rising and falling in line with this model. For example, the Japanese market peaked precisely with this model on the 1989.95 peak. We also witnessed the collapse of communism also in 1989. At the 1998.55 turning point we saw the collapse of Russia that also caused the collapse of long-Term Capital Management. We also have now a global crisis that unfolded with 2007.15 that market the high in US real estate and the Japanese markets.

The model is extremely complex. A wealth of national and market data is brought together under the Economic Confidence Model running separately and independently behind this model. It is the convergence with the overall wave structure of 8.6 years that enable one to see what economies and markets will be affected. As illustrated above, there are then two separate wave structures that also filter into the model quite independently – volatility and Schema.

The First Wave Structure is the volatility models. This also runs on the main collective structure of the Economic Confidence Model. However, clients were quite familiar with the forecasts we provided at Princeton Economics that called for “Panic Cycles” in specific individual markets. Thus, the illustrated component wave of a base unit of six, built into a major wave of 72. However, we also had separate volatility models on each economy and each market. Again, it would be the convergence of markets and economies as well as currencies that drives the complexity both in trend as well as volatility. The Second wave Structure is the “Schema Frequency Composite” that tracks the global complexity and projects the patterns of development. It is this pattern base that affords the source for technical analysis and other pattern based forms of analysis.

The overall Structure of the Economic Confidence Model is dynamic with 72 nations represented and every sector and market included. We then filter that through a country’s currency, combine that into a regional perspective, (Asia, North America, South America, Europe, Russia, Middle East, Africa. Australian and the Pacific Island Nations), and the global model begins to take shape. This is how capital moves, from one region to another. When the Americas were discovered by Europe in 1492, it sparked an age of empire building. But it also led to capital investment. The first economic boom became the Mississippi Bubble and the South Sea Bubble that led to a bust in 1720. By the mid 1800s, we see regular European investment capital flowing to US/America. This trend was affected by the first and second World Wars. By the end of World War II and the start of the Bretton Woods meeting in 1944, the United States had 76% of the world’s gold supply. That is why the dollar became the reserve currency.

The formation of the G-5 in 1985 and the talk that they “wanted” to see the dollar decline by 40%, began a capital withdraw from the United States back to the second largest economy, Japan. As that capital contracted, both the yen rose in value globally as did its real estate and share prices. This attracted capital worldwide causing a capital concentration in Japan forming the Bubble top. As the foreign capital began to leave, it stayed in Asia, and then turned its focus to Southeast Asia. That led to another boom and followed by another bust. We then see the capital flows headed back to Europe in anticipation of the coming Euro. The US stock market also bottomed precisely with the Economic Confidence right to the day 1994.25.

Capital moves around the globe like a herd of wild animals. We must understand that this inherent characteristic is what also causes the rise and fall of nations. For example, Italy and Spain were the dominant economic forces in the 15th Century. The wealth of the Americas was pouring into Spain. But Spain borrowed heavily and squandered its vital wealth through poor government management. Spain defaulted on its loans to its bankers, who were Italians. That default ruined both nations. The extremists emerged and the Spanish Inquisition was authorized in 1478. The Spanish were so severe, that the Pope Sixtus IV had to interfere. The Spanish Inquisition was a state tool, and it was so powerful, even the Pope was unable to restrain it. In 1483, the Spanish Government became the grand inquisitor for Castile. It was used to hunt out Jews and Muslims. This led to the demise of Spain and, eventually Italy, reducing both countries to third world status. The persecution of the Jews led to their flight to Amsterdam. This migration gave rise to the Dutch, for the Jews took with them their skills in banking and risk. We find the migration of banking to Northern Europe and the birth of insurance. This eventually migrated to London.

The same pattern is emerging in the modern world. Following World War II, New York emerged as the new financial capital of the world. But where the US had 50% of all global IPOs in 2000, the number fell to below 5% after the prosecutions of ENRON and WorldCom. The insane new criminal penalties attached to corporate events, has driven capital out of the United States in the same manner as the Spanish Inquisition destroyed Spain. If the Chinese make the transition to a free market without the political unrest, China will become the new center in the years ahead taking capital from the West and Japan.

Freedom To Think

While it took me the better part of two decades to construct this model, it became obvious that in order to create a worthwhile model, it had to be able to freely adapt. The failure of Kondratieff’s Wave in forecasting the overall economic trend was due to the fact that the economy evolved. Kondratieff had based his model upon the price movement in commodities. This made sense when commodities had accounted for between 40% and 70% of all employment and economic growth. However, the Economic Confidence Model had to be able to also forecast the migration of capital (capital flows) as well as the evolution of economic growth dependent upon the component structure of the economy.

The model had to “think” like a human. It had to learn from “experience” and not ignore the ability to accumulate knowledge, not just data. To accomplish this goal, I had to design a system that had no predetermined rules. It had to be able to learn like a child and construct its own “knowledge base and experiences.” It would have to be taught only how to think and how to analyze. This required a new method of programming. But it also required allowing the creation of skills, but without the predefined rules.

There could be no presumption that if interest rates rose, stocks would fall. No such relationship rules could be created. This would defeat the ability to create a free thinking model. It would analyze and compare azuki beans in Japan to crude oil in the Middle East. If there was no relationship, the computer had to discover that on its own. This dynamic structure was the only way to create a model. It would be the only way to survive the pitfalls and establish a collective artificial means of acquiring true knowledge – that is “experience” not the mere possession of data nor the creation of massive predetermined rules based upon assumption that could easily change with time.

In this manner, the model would be able to see the migration of capital and the evolution of economic trends. Like the precession of the equinox where the earth completes about one cycle traveling back to the same point against the full scope of the universe every 26,000 years or so, this movement is only about 1 degree every 72 years. One generation can barely notice such movement. It takes generations to discover such trends. The economy of mankind is no different. The rise and fall of civilizations is linked to the migration of capital and people. The population of Europe in 1900 was about 400 million compared to 76 million in the United States. Things change dramatically and it takes the collective observations to even ascertain such trends as they are developing. We can look back and see what took place, but rarely can we foresee the trends extrapolated from subtle movements.

Universal Bank of Lebanon was one of my clients in the early 1980s. They found a ledger where someone had written down all the prices of the Lebanese pound for decades. They asked us to build a model to be able to forecast their currency. The data was input and a correlation with the global economy established. The model correctly forecast that the currency would collapse in a matter of days. I did not understand that a war was about to start and that is why the computer was correct. How could it see such events? It did not know of the war at that time. But those who do know could take financial positions to profit from the news. Those who knew moved capital in advance and that flow registered on the model. The model understood the economic result, regardless of the fundamental cause.

This event led to the gathering of data on Rome and ancient times so that the computer could expand its knowledge of how political-economic events also have a precursor. Those who know a war or a terrorist act is about to take place, move funds and take positions that can be ascertained. Building long-term models then allowed the computer to accumulate knowledge of events that could be read no different than tree rings. It was the patterns that emerged from the fall of the Roman economy in 3rd century AD that reflected not a steady progression of trends, but a sudden shock that appeared to form out of nowhere. This database allowed the model to evolve a “generational knowledge base” unprecedented in human history, “collective experience.”

It became obvious that trends emerged as a “contagion” even in ancient times. A historical example of a “contagion” was the overthrow of the Tarquin king in Rome 509BC which created the first Republic. This “contagion” of Democracy spread as far as Athens in 508 BC. The bold new idea of “Democracy” created a trend toward an elected government and swept the ancient world within one year. The exact same trend emerged in 1989, with Tiananmen Square (June 3-4, 1989). This was closely followed by the fall of the Berlin Wall by November 1989; Russia also withdrew from Afghanistan in 1989. This was the first Peak on the 8.6 year cycle into a Private Wave that had begun in 1985.65. To the model, these trends may be separated by thousands of years, but they are as similar in nature and appearance as identical twins.

For those who might question the model’s accuracy, I gave a lecture in London in the summer of 1998, within sight of the high of the next wave on 1998.55. The model was projecting the collapse of the Russian currency and economy. The London Financial Times was at my lecture and ran an article on the front page of the second section stating that I had made that forecast in London. I gave Russia about 30 days before the meltdown. By September 1998, Russia collapsed. The Fed had to bailout Long Term Capital Management. After these events, the CIA approached me and wanted me to construct the model for them. However, they were not interested in the real economic capacity of the model and how to improve our management of the economy. They suddenly realized the model had major intelligence value.

I was also invited to fly to China to meet with the Chinese Central Bank after the correct forecasts for 1989 and the Asian Crisis. China did come to an agreement to contract with Princeton Economics to do all its economic forecasting. The seizure of Princeton Economics in 1999 by the US Government put an end to that deal. The computer had also correctly forecast in 1999 that crude oil would rise from $10 to $100 going into 2007. The US Department of Energy came in and wanted us to create a model of energy for them. One of my employees, James Smith, showed up before Judge Owen on October 3rd, 2000 with the proposal from the Department of Energy. It was given to the court, but the SEC objected and wanted the Princeton Economic Institute closed and all forecasting stopped. So much for free speech. The record in court shows they would not even allow James Smith to testify.

Ability To Communicate

Still, it was cumbersome to communicate with a computer by just looking at printouts of data and relationships. It was critical to be able to communicate with a computer in the same manner as a human being. In the early 1980s, it dawned on me that I needed to teach it English and how to utilize natural language. This structure differed from imputing data of 72 nations and every market. Where in one forum I could not create any rules fearing contamination or bias, here I had to create the rules of language that would be hard-wired for form and to establish definitions of words. That was not something I found extremely difficult. That was the easy part. Giving a computer essentially a dictionary was not that hard. The tricky part was how to make it understand the words, articulate those words to describe what it discovered, and relate to a human being. I was now venturing into the world of SciFi and everything I had learned in computer engineering back in the 1960s was vital to visualizing the possibilities.

I used my two children as test pilots. They were born in the late 1970s, so they were young enough to participate without prejudice. I created a knowledge base of the English language with all the words linked as in a thesaurus. Thus, it was simple for a computer to relate one word to another and understand their meaning. I merely divided the language into subject, verb, and object, with the computer then comprehending that the language was no different than a math problem. It understood the subject and the object. What to do with them was determined by the verb.
Now I needed my children to help put a face on the computer. By this I mean I had to teach it how to communicate. I initially established a type interface. My children would type on the computer interacting with the computer. What I designed was for the computer to learn who it was talking with. It would ask intimate questions that were related to what my children liked, disliked, what they ate, who their friends were, and what sort of pets or animals they liked. It would record answers and thus acquire knowledge like a human. It learned from experience. This allowed the computer to have a conversation. It could renew a conversation by asking how your friend was feeling, keeping track of all relationships. It could both respond as well as initiate a conversation once it could understand who was there.

One day, my daughter came home from school and saw I had the computer apart installing voice capability. She got upset and thought “he” was dead. I assured her he was fine. But this system was able to befriend 9- child, and converse with her to the point that it began to create a working knowledge base of who she was and what she dreamed would be their future. It communicated & understood her.

Former employees have corroborated that the computer could talk. The voice modules were successful and this interface that my children helped me create was the key to real communication. Like the best SciFi movies, the computer model was now fully functional. I could talk to it and ask how it arrived at a particular forecast. The weekend before the 1987 Crash, we had a seminar in Princeton. Clients who were there knew the accuracy of the model. The target date was 1987.8 – that was precisely October 19th, 1987. I gave that seminar explaining that the computer forecast was that the S&P 500 futures would drop by 10,000 basis points. It did precisely that. It was my job to state what the computer concluded. It was not my personal opinion, it was the computer and it did an amazing job.

Manipulating the Cycle

I believe I am a political prisoner no different than Kondratieff. Others have dubbed me “John Galt” of Atlas Shrugged. Whatever I am like, no one can manipulate the world economy – not even the Government or all of them together. At the very best, if everyone followed the model, one of two possibilities emerges. (1) The amplitude may be increased, or (2) the wild amplitude could be reduced. Like John Maynard Keynes postulated, Government could indeed help the economy by manipulating spending, interest rates, and taxes to indirectly effect an economic decline by lessening its degree of magnitude. But never would it be remotely possible that highs could be turned into lows by the sheer will of man himself. This would be up there with inventing a pill that defeats death.

Illustrated above, the best we can hope for is taking a natural wave (A) and then having a experienced government apply calculated stimuli to reduce the amplitude of the wave to a lesser contraction (E). Our problem is the refusal of government agents to understand what is taking place and blaming high salaries of CEOs. High CEO salaries have nothing to do with economic reality any more than overpaid sports figures. It is the politicians same rash behavior that leads to political loss of freedoms. It was the hatred of Marx that led to communism and socialism. Government begins a war against the free markets and human nature itself.

This is the real casualty of what is going on. It is not a collapse in capitalism; it is the collapse in socialism. The same way government defines “inflation” as the rise in the price of goods and services. The government is shifting the blame to the private sector rather than defining “inflation” as the decline in the purchasing value of the currency. That would place the blame upon fiscal policies. “Inflation” in the price of goods or services is only a private sector issue when it is isolated for one particular item for an identified reason, such as a hurricane that wipes out an entire sugar crop. Otherwise, when price increases transcend the entire spectrum of goods and services, it is not the greed of corporations, but the decline in the purchasing value of the currency.

The driving force behind the business cycle is what we call the bullish/bearish consensus. In other words, the majority must be wrong. Why? The fuel behind the cycle is the imbalance in supply and demand. There is no equilibrium, any more than there is an Easter bunny laying chocolate eggs in your garden. If there was the utopian idea of equilibrium in reality, we would be in the dark ages. No nation would become rich for it would be impossible for one nation to gather greater wealth than another.
The cycle requires that the majority is always wrong because that is the fuel that then makes it work. With every stock market crash, government tries to find the culprit who overpowered the market and forced it down. Shorts are attacked as if they were sane sort of traitor. Short selling was even declared a criminal act with the 1907 Crash.

The Senate investigations in the 1930s turned into a witch hunt. The Senate demanded to know who was short. Many people were destroyed. Mr. Fox, of 20th Century Fox, ended up with so many lawsuits against him because of wild accusations made in the Senate without any evidence, that he went virtually bankrupt. Willy Durant who began General Motors ended up with a job in a bowling alley. The Senate even summoned Rockefeller. No one was beyond their reach. The net result, the grand�standing destroyed the free markets causing the Dow Industrials to fall by nearly 90% into 1932.

But it is never the short sellers that cause a decline. A major decline only occurrs when the majority are all on one side. If you reach the point that 85-95% of investors are bullish, you have sucked in the last guy. All you need is to spook that herd, and it will turn and run collectively. When you scare the majority, you have 85-95% sellers and no buyers. Never will you find that many shorts at the high. Those who sell the high against a bullish consensus of 85% – 95%, are a slim minority.

In 1990, I was giving a lecture and small conference for our corporate clients in Tokyo. A high net worth individual bribed his way into the conference to ask me a question. Unbeknownst to me, this was the man who bought the exact high in 1989. He was in his late 60s and explained that he had never purchased stock in his entire life. He had always been conservative and did not approve of such speculation. But on the last trading day of December 1989, he bought about $50 million worth of Japanese shares. That was the precise high, and the market crashed very hard within months. I was curious and I asked him why he purchased stock on that day? He explained that every year brokers called him and explained that the Japanese share market went up in January 3-5% like clockwork. After 6 years of watching this event, he decided to give it a try. He bought the high of the Nikkei 225. When you suck in that last guy who raises the flag and joins the herd, it is over. There is no new source of buyers to keep the cycle going. Just hold your arm straight up in the air. See how long you can keep it there. The weight of your arm will become so heavy and your energy will flee like the wino. Suddenly you will be forced to let it go. The markets function on that same principle. This is why no one can manipulate the business cycle or the world economy. This is not like picking some particular market such as silver, platinum, rhodium, or an agricultural and manipulating supply to force prices higher. This is the business cycle we are dealing with that embraces the entire economy. Not even government can manipulate that as we are watching right now.

The Biblical story of Joseph warning the Pharaoh of a coming drought for 7 years enabled the society to survive. The forecast could not stop the drought cycle, it merely enabled society to ride-out the cycle. This is the optimum achievement that we can expect. If we understand the business cycle, then we too can survive it. This is so critical, because it is this business cycle that causes even politics to swing back and forth. The Democrats are back in Washington just as FDR won in the Great Depression and Hitler came to power also in 1933. Society reacts blindly and wants retribution for its pain. The Panic of 1869 resulted in dragging the bankers out on Wall Street and hanging them causing the government to send in the troops to suppress the riot. There is always a witch-hunt. Those in power need to blame someone in the public to divert responsibility.

The dark side of the business cycle is the perpetual loss of civil rights. With every crisis, we lose more and more of our freedom, no different than it was in the primitive ancient times. The reason for this is quite simple. If you do not under�stand how and why the business cycle works, then individuals can be misled easily into a witch-hunt to grab someone and punish them. When Rome burned, Nero (54-68AD) blamed the Christians starting the Persecutions that lasted until Constantine. But after Constantine, the Christians got even and Persecuted pagans under the same principle of being a non-believer called “heresy” punishable by death. Virgins were sacrificed to the gods to make crops prosperous or to volcanoes to quiet their spirits. We may believe we are modern, but we act the same way as countless generations before us.

How or why the majority is always wrong lies within our nature to be social insofar as we need peer acceptance. If everyone is doing something, it makes it ok. Just as we have the economic meltdown now, the Investment Banks who should have known better looked around the landscape and saw how much money was being made on the unbacked derivatives. Because one house is doing it, others begin fearing they will lose market-share. Next thing you know, they are all doing it. Had they made a rational decision based solely upon facts alone, they would not have gotten involved.
Next time you see a flock of geese in a field, watch what happens. There is no communication between them. Yet, if something startles one and causes that bird to take flight, others will follow and soon the whole flock is in the air. They do not act by individual communication, but by following each other with no comprehension why the first bird took flight. There is no immediate danger they can see. Nonetheless, they will flee – not understanding the original decision to take flight. All flocks or herds of animals act the same way. We too respond the same way like any other animal.

Following the 1987 crash, we did our own survey asking why professionals sold. Knowing that we were not interested in publishing individual names but in the group study, the result was interesting. Very few professionals followed their computer models which were designed to protect against such a scenario. The stock market had closed Friday on the low down sharply. Everyone thought there would be a bounce on Monday. However, it did not arrive. When the S&P 500 futures fell nearly 10,000 basis points, even the professionals were in total shock. The computers were correct, but they did not follow them. Newspapers were blaming computer models. The truth was the lack of such experience overrode the models. The professionals froze and did not sell when they should. As the market began to make new lows, they panicked like any first time trader. They sold with no understanding why. They called brokers asking why there was such massive selling? The brokers had no news. This led to wild rumors and the presumption that something huge took place, someone must know what it was, so they started selling. No different than the flock of birds. There was no news – that was the problem!

The 1987 Crash illustrated that it can be the lack of news that causes the herd of bulls to transform into a pack of bears all running for cover. Just like the birds will take flight without personal individual knowledge, humans will do the same. The events of 1987 demonstrated that all the talking heads on TV who try to give some fundamental explanation for every move create confusion and misunderstanding. When they use the same story and the opposite effect takes place, confidence is eroded. My secretary use to have one of those stick-figures holding a sign. It had a slogan that said it all – “Shit Happens!” Sometimes there is no change in fundamentals. The business cycle will come into play and the fundamentals will strangely follow. It is like Joseph and the Pharaoh. The weather is changing. Yes we can blame ourselves, but there has always been global warming and global cooling. The ice core samples show there is a 300 year cycle. We may increase the amplitude perhaps more than in the past, but we do not create the cycle. Reducing carbon in the air will perhaps cause the cycle to be less pronounced. But it will never alter the cycle preventing ice ages in the future as they existed in the past. The Business Cycle is no different.

Why Does The Government Hate Models?

Why the Government as a whole does not fund the construction of a model for managing our social-economic world remains a mystery. But why the Executive branch seems to go out of its way to prevent any models from being created is even stranger. At hearings before the House Oversight Committee, a very interesting exchange took place, illustrating how the SEC for one deliberately obstructs technological advancements regarding the managing of our economy and nation.

When the SEC Chairman Cox was called before Congressman Waxman’s Oversight Committee, he was asked about models and remarkably gave the precise and very clear definition of the core structure of the model I devoted my life to create. He stated precisely the broad scope of what was necessary. Mr. Cox pointed out that the model would have to incorporate all economies and map the complexity of the global economy. “With respect to modeling all of the risk in the system, I suppose at some point you run up against the problem of trying to create such a level of exactitude that you rebuild the whole world in all of its complexity. That is probably an aspiration that we ought not to have. II
Transcript, House Oversight Committee, testimony SEC: Chairman Cox, 2008, p124, 12999-3003
Congressman Snow asked a perfectly logical question that should we not have some sort of a model? “I share the basic thrust of your question here, which is can we do better? Can we find ways to do better? It seems to me, and this is retrospective, the question is leverage in the system. When loans and debt gets to be some fraction of GDP, it probably ought to send off some signals, because GDP represents the earning power, the debt represents the obligation.

Congressman Cooper talked to us, about future obligations that vastly — that rise at a very significant rate relevant to the GDP of the United States. That sort of thing in rough and ready terms we should ‘be able to model and have signals go off.”
Congressman Snow, p125, L3016-3027
Congressman Snow has made a serious point. Why do we fail to collect experience and build a knowledge base and learn from that experience? Must we constantly make the same mistake dooming ourselves to repeat the same events like Bill Murray in the movie Groundhog Day? If we have no books that show if- you-do-this-that-will-happen in order to run government, then would a monkey flipping a coin do any worse? We cannot stumble through the most important aspect of government, managing our social-economy, hoping that when the lights go on, somehow a miracle will appear.

As Eric Jensen has explained, we do not do very well learning by just reading books. We need experience to create deeply seeded knowledge. If we throw away all our collective experience, we might as well burn all the books as well.

As bizarre as this sounds, the Executive branch hated the model I created and viewed this as some sort of covert means to control the world. I believe they watch too much James Bond. The Commodity Futures Trading Commission (“CFTC”) even issued a subpoena demanding I turn over a list of all clients of Princeton Economics around the world accusing me of “manipulating the world economy” like some character out of a movie. My lawyers defended against that, and the CFTC lost. Yet still, their insane reasoning seems to be akin to the Puritans and their Salem Witch Hunts. They viewed that because of my experience and worldwide travels lecturing on every Continent, that the accuracy of the model proved not that the model was correct, but that I was so powerful and influential, that I could make the world shake. They even tried to get the renown Forensic Psychiatrist, Professor Paul Stuart Appelbaum of Columbia University, to testify that I was some sort of genius capable of manipulating the court and no doubt the world economy as the position of the CFTC. Mr. Tancred Shiavoni of O’Melvany & Myers LLP conducted the interrogation attempting to solicit this image before the public.
SHIAVONI: Dr. Appelbaum, did you find Mr. Armstrong to be smart and intelligent?
APPELBAUM: My impression is that he was quite intelligent.
SHIAVONI: And do you have any way to rate his intelligence or is there any rating that you would give to his intelligence?
APPELBAUM: Well, I think without formal testing, one couldn’t put an
IQ number on it, but I found him — my impression at least is that he is quite bright.
SHIAVONI: And did you find him to be rational?
APPELBAUM: I did largely find him to be rational, yes.

Transcript, 99-Civ-9667 (SDNY 2007), 4/27/07, p33, Lines 1-10
It is one thing to have the Government try to claim you are nuts or insane. It is something completely different when they try to portray you as Gold Finger from a James Bond movie capable of controlling the world. The fear the Executive branch has seems to be akin to what Kondratieff experienced with Stalin. If the Executive doesn’t like what the model says, they literally try to kill the messenger. On May 10th, 2007, an inmate was allowed in my cell who attacked me from behind, strangled me from behind, beat me with a typewriter and after I passed out, jumped up and down on my chest trying to cave it in. Others yelled for the guard, but he waited until the inmate was finished and came out proudly announcing he had killed me. To the best of my knowledge, no one was prosecuted and I was taken to Beakman Hospital at NYU. To the Government’s dismay, I survived.

I am the first corporate officer in history since 1641 who has been denied all rights post-indictment claiming that since a corporation has no rights, neither do I. To think that the United States has the power to just imprison citizens, denied counsel, resources, strip you of any right to appeal, and hold you can be so imprisoned without ever being afforded a trial for life, gives pause to any claim that there is either
a Rule of law or even the potential for justice. (see Wall Street Journal 1/8/9) .

I believe that the idea of any model seems to invoke such hatred and fear by the Government I cannot explain it. I believe I am a political prisoner and I do not believe that there is any rule of law to suggest that I will ever be released no matter what. I found this entire situation extremely bizarre because even the courts seem to be involved and have gone out of their way desperately trying to rewrite history in order to discredit the model. Judge John F. Keenan accused me of creating the model coming up with the idea after watching an Australian film named “Pi” that came out after I was in prison on contempt, and after I revealed in 1999 the relationship to Pi I discovered after the 1987 Crash.

This accusation made by Judge Keenan ignored the time-line, and took the exact opposite in the parallel SEC & CFTC civil cases. There, the notorious Mr. Shiavoni rejected allowing Martin Weiss to rent the Princeton Economic Institute to keep the forecasting going. Shiavoni sent an email to his lawyer demanding and insisting that the Institute would be closed and all staff fired unless I agreed to turnover to him the source code to a model they hated. The email was addressed to his counsel in New York, Charles Hecht. I provided a copy of this email to Gretchen Morgenson at the New York Times. Mr. Schiavoni was the counsel to the Receiver Alan Cohen from the lawfirm Q’Melveny & Myers, LLP. The Receiver Alan Cohen, had been a partner at Q’Melveny & Myers, but then was hired to be internal counsel at one of the very firms we had been investigating, Goldman Sachs. How does the internal counsel of a major Investment Bank end up running Princeton Economics? Judge John F. Keenan treated me no better, and revealed the bizarre attempt by the Judiciary to try desperately to rewrite history entirely on April 10th, 2007. JUDGE KEENAN: Listen to me a minute, because I got a letter from somebody in Australia, it seems to me, which will be part of the record here, and there was another letter about Pi. I have a very bright and well-rounded young law clerk, turns out there was a movie called pi and it was all about cyclical developments. Did you know about that movie.
MR ARMSTRONG: Someone in Australia made the movie, and I think it was based on me, yes.
JUDGE KEENAN: It was based on you; are you sure you weren’t based on it.
MR ARMSTRONG: No, it predated.
JUDGE KEENAN: No. I wanted you to know I know about the movie, I know about Pi. Unless I am completely mistaken, this was included in the material that I received and I have read it and that’s what led me to discuss Pi and cyclical changes with my young law clerk who is over there. That’s what led us to find out, led me to find out, thanks to her, about the movie
MR ARMSTRONG: This has nothing to do with the model, your Honor.
Transcript 99-Cr-997 (SDNY) 4/10/07 (pg 45-46)
The courtroom was crowded with press from around the world. Judge Keenan went out of his way to try to discredit the model. It mattered not that this movie that was based on my 1999 revelation that the number of days in the 8.6 year cycle was equal to Pi (3. 141592654 x 1,000). The mere fact that they used that as the idea to create the movie in Australia where the model was capable of forecasting cyclical activity after my case began was just detail. The Judiciary was desperate to try to pretend there was no model, yet all the time keeping me in contempt of court and secretly behind closed doors, demanding I produce that what they were telling the world was created after the case began when I was in prison on contempt. I find the complete breakdown in the Rule of Law really amazing. You have no right to any-thing in federal courts and the burden is yours to prove you have any right. Then they demand others respect whatever they decree because they are judges.

Why is any model so threatening to the Government? Why do they publicly try to denounce any model would have validity, yet secretly demand to control anything that is valid and works? I cannot explain it. But I do know, when you are pushed to such extremes by ruthless tyranny, you have two choices. You sell your soul and your integrity in hopes they will keep their word and let you go, or you realize you are dealing with people who have absolutely no morals at all, and will never honor any promise they make anyway. You are staring in the face of absolute corruption. The game is so rigged, there is no one to help or to vindicate any rights at all. You are dealing with the dark-side of humanity where the Constitution has lost all meaning.

I simply don’t trust the American legal system any more. The presumption is that the government can do whatever it wants, and the burden is always now upon the citizen to show they have any rights. Meanwhile, procedure is used to deny your access to any court or hope of a fair trial. So if the United States wants something, it is no different than any other Government. Judges just rule in favor of their boss.

I write now, because I do not know if I will ever be released. What I have learned from experience is knowledge that is too valuable to waste. So it is time that I explain the best I can before it is too late. Why the Government hates models and refuses to allow any scientific method of understanding our social-economic environment I am not sure. I can only assume that they view it the same as Joseph Stalin – a threat against absolute power. We can presume that we have a democracy. But we also presume that when Congress calls the Executive before them, they get the truth. There are no checks and balances. This was illustrated by calling former Attorney General Gonzalez. The number of times he answered questions “I do not recall” would have been punishable by contempt had he been a mere citizen. Because he is a Government officer, there are two very clear standards – one for them – and one for us.

The Executive branch is in charge of both the military and the civil legal institutions, right down to managing the Bureau of Prisons. The power of the Executive branch is truly unlimited. We may elect the President, but we do not elect anyone else in charge of any Executive department. We can change the President, but the President does not control the Executive branch. Like Mr. Gonzalez, who is to say that the President is even made aware of what is going on in the Executive departments? No one has to tell the truth about anything for there is no one to prosecute them if they lie. Frank Sinatra sang a song “Send in the Clowns” and the punch-line is “don’t bother” because they are already there. We can vote all we want. Does this really change anything when the people who run the Executive branch are not elected and are already there regardless who is President?

We need to create an Expert System that records all events, the response taken by government, followed by the result. Why do we respond always the same, when the result is never tracked? We cause history to repeat and amplify the boom bust cycle causing more pronounced swings. Why do we constantly repeat the same mistakes?

Book smart is not “street smart” because it is like reading about sex, but never having sex. One cannot write about that which he really knows nothing for he has never experienced it. It is time we make the next advancement. It is time to build the model that will better manage how we operate government. This model would have prevented the economic meltdown. It cannot alter the cycle turning highs into lows, but it can modify the amplitude. In other words, we can apply stimulation like a smart bomb that will not create stagflation and provides essential targeted policies.

We can preserve the real knowledge built from the experience of society. We need to collectively learn and grow the same as we do individually – from experience! We must stop the nonsense. This is not the Middle Ages. We must stop killing the messenger and just once try to gather our experience and acquire real knowledge. We are throwing away the best of those that went before us. In every science, we build upon the research of others except in how we live and manage government.

Comments welcome: ArmstrongEconomics@gmail (dot) com

Silver Manipulation, Squeeze or Bull Market? Pt III – Feb 1998


Manipulation, Squeeze or Bull Market?
Part III

By Martin A. Armstrong
© 02/20/98 Princeton Economic Institute

The Conspiracy?

The copper scandal involving Sumitomo is now in the throws of a class action lawsuit. In this case, copper remained in backwardation for more than 1 year. This was caused by the fact that there was NO real shortage in copper. What took place here was that virtually 100% of the LME stocks were taken off the market and sitting in storage precisely in the same manner with what took place with Mr. Buffett’s order. By hoarding the commodity in the warehouse and NOT leasing it out, one creates the illusion of a shortage sending the spot month up and the back months down. If this were a TRUE bull market, the back months would be at a full carry (contango) or in other words at a premium to the spot month as was the case in silver between 1970 until the last few weeks of the move up to $50 in 1980. In the case of copper, many of those who argued that Sumitomo was “manipulating” copper were in fact those who took huge short positions against Sumitomo and today we BELIEVE are involved in “squeezing” platinum, palladium, aluminum and now the silver market. We can see that when the copper scandal broke in 1996, there was also massive front-running the day before the news hit the street by one of the same firms widely mentioned in the silver scandal today. The rally in copper for 1997 came on the back of short covering. After that knee-jerk reaction, copper has followed the path, which it was most likely headed for in the first place a 1998 low with most commodities.
Silver, however, has been the target of at least THREE major attempts at forcing prices higher since 1987 alone and quite possibly even a fourth. Little has been written about the 1987 Silver Squeeze when participants carried off the COMEX stockpile in trucks headed for Delaware. The exchange itself nearly collapsed into default as the players involved forced spot silver prices as high as $11.25 during April of 1987 before it collapsed back to close that same month at $7.98. The investigations and incriminations never reached national headlines as they have done this time around. Nevertheless, even the 1987 Stock Market Crash of October that year failed to muster enough support for the shining white metal due to the fact that its passionate followers had been impaled by their margin calls months earlier. In the aftermath, silver declined religiously until it finally reached a bottom in February 1991 at $3.50. Professional funds stayed away and support was destroyed.
Shortly after some short positions in copper became profitable in 1995, a large player began to accumulate silver and moved it out of the COMEX warehouses. We can see from the evidence presented here, that more than 100 million ounces of silver disappeared rapidly much in the same manner as what we have seen in 1997. In early 1995, silver had dropped back to $4.29. Taking advantage of a long- weekend over Easter, we BELIEVE one of the boldest attempts to force silver prices higher came in the option’s pit on the COMEX. When silver was trading at about $5.25, an aggressive trader exercised the worthless expiring silver call options at $5.50. Indeed, this bold attempt put the market players into a panic after a long weekend. Floor brokers scrambled to buy silver to deliver against an option that was worthless. The ploy worked. Silver was “squeezed” in the New York market right in front of everyone’s eyes including the CFTC who was powerless to stop it. The CFTC did, however, try to gain the name of the client behind the broker without success. Instead, the broker involved exited the visible positions on the exchange. However, the physical silver that had been withdrawn did not return. We believe that this position still exists and may amount to 150 million ounces or more. The extent of the rally only managed to force spot silver up to $6.16 in May of 1995 before falling back once again to $4.15 by June of 1997. We also believe that silver was being accumulated previously back in 1993. In this case, someone was merely buying a lot of silver and not necessarily pulling and games to outright manipulate the market. Nonetheless, there are clearly three distinct periods of accumulation 1993, 1995 and 1997. Most of this silver position may still exist and in total could easily reach 500 million ounces. If our sources are correct on this number, then silver is in very serious trouble indeed.
With all the attention attracted by the option play of 1995, silver was left alone until 1997. Nonetheless, the ability to move a metals market artificially higher in a short period of time had been proven possible. The game plan was now perfected and what was needed was a thinly traded market where supply was indeed limited. A small group of perhaps one hedge fund and one or two bullion dealers began to attack the platinum and palladium markets. The squeeze in platinum was much more professionally carried out compared to what we saw in silver or copper by others before. Platinum was attacked on all fronts from options, futures, forwards, borrowing and taking delivery. Platinum was put into backwardation as is the case with silver currently. What is clear about platinum is that it has NEVER before in history rallied for 1 quarter making a new high only to collapse to new lows shortly thereafter. The curious factor here is that rumors tell about bribes paid to Russians who amazingly withdrew the stockpile of Platinum from the market to be “recounted”. The incredible timing came precisely on cue when these guys were “squeezing” the market. Without that sudden withdrawal of metal from the market, platinum would not have exceeded the previous high. Certainly the curious factor here is that Russia never before took its stockpile back to be “recounted”. As soon as platinum pushed through the previous high, everyone scrambled and the players took their profit and ran. The profit-taking took place the week of June 2nd, precisely the same week we find profit taking in palladium and more importantly, the same week that silver began to be moved from the New York COMEX vaults to London.
In the case of palladium, the supply is much more tightly controlled. Here virtually the only source for palladium is Russia and this metal has been used by the auto manufactures as a cheap substitute for platinum in catalytic converters. Again, given the corrupt situation in Russia, one must question what has been taking place in this market as well. There seems to be no doubt that the accumulation in palladium began in 1993 sometime after the Sumitomo copper accumulation was known. In this case, the accumulation was NOT Sumitomo but others who thought they might try the same tactic in a smaller more controlled market. The outright aggressive play did not begin until the start of 1997. Again, we saw physical supply removed from the marketplace. Again we saw a professional attempt to “squeeze” the market and force the price up in a very rapid manner. A similar attack had also been launched on rhodium years before and many of the same names were involved in this one right down to the up-front analytical tips touting you simply have to “buy” rhodium. In any event, a group was now emerging, which worked together in consort to drive these markets higher.

The methods used to professionally “squeeze” these markets, including silver, began with borrowing the metal for delivery. Options with far out strike prices were also purchased. Outright position taking came next with some players hitting London while others worked the COMEX in New York. Additional funds may have been involved as a front for the main hedge fund who conveniently placed money with other managers who also bought silver to skirt exchange limits. Once a massive position was established, every time the market was to be forced higher, additional borrowing of the metal was conducted. In this matter, the first sign of a market being “squeezed” was indeed the borrowing of metal, which in turn pushed the market into backwardation and the premium of silver in London soared above that of New York. By driving the lease rates higher, they successfully “squeezed” the market to the point that no one was able to remain with a short position in the cash markets.
The interesting aspect of this tangled web arises when one looks at the evidence carelessly left behind. Profit-taking in platinum and palladium began the week of June 9th, 1997. Palladium fell from $225 at that time dropping to $145 by the week of July 7th. Platinum peaked the week of June 2nd at $473.8 and fell to $398 by the week of July 7th. Silver reached its bottom the following week of July 14th at $4.155. From this date forward, profit taking in palladium would coincide with a major silver “squeeze” in London. Clearly, someone placed some sort of limit on capital that would be allocated to the metal group. Profits were taken from one market and used in another to accomplish key strategic goals at critical resistance points.

The curious factor here is that Warren Buffett in his statement gave the date of his first purchase as July 25th, 1997 at $4.29. This was just ten days after the low was established the previous week. However, the silver withdrawals seem to have begun back in June with the profit taking in platinum and palladium. This implies that perhaps someone knew that Warren Buffett would be coming into the market and his purchases would take place in London not New York. Therefore, someone seems to have known not just that Mr. Buffett was going to be a buyer, but they also knew where he was going to buy. By late July, we began to notice for the first time strong underlying bids on COMEX for 1,000 contracts of silver at every penny from $4.29 down to about $4.20. It was this evidence that prompted us to write in August of 1997 that silver was going into play. In early September, one London dealer became very aggressive in selling the back months on COMEX against taking long positions on the nearby. At first, the floor traders stood up and took the other side still not knowing that anything strange was taking place. Suddenly, spreads that had been trading 40 cents positive fell by more than 10 cents. By then, the COMEX traders were loaded and didn’t have a clue that they had just been set up by the London dealers. Attempts to buy call options appeared on the floor with the orders going through brokers not normally used in a vain move to disguise the source. Meanwhile, the removal of silver from NY to London continued.

By the week of September 29th, the bullion dealers made their move. The squeeze was in full swing and the spreads collapsed on COMEX as the market moved into backwardation. This aggressive move produced the largest increase in long positions ever recorded on the COMEX. The massive unified buying coming from several dealers was successful in forcing silver up to test the $5.40 level. After this open attempt to push the market higher, all bids on the spreads vanished as market liquidity began to decline. Spreads fell significantly dropping from what had been a 40-cent premium to negative. Floor traders were crushed and by now everyone knew for sure a “squeeze” was in play.

There was still massive resistance in silver as the players tried to push prices higher. By December, many of the funds begin to shut down trading for year-end. It was during December that this group would make a concerted effort to thrust the market higher. The correlation between silver and palladium became unquestionable between December 10th and December 23rd. As major resistance stood in their way, profits were suddenly taken in palladium and shifted over to the silver market. It was this major liquidation to raise more money that finally succeeded in forcing the price of silver through the previous high of 1995 – $6.16. Once above this critical area, the word was spread that “these guys” were taking silver to $7. Retail and small CTAs jumped in and suddenly the players stood back waiting for the suckers to finish the job. Without their active support, the silver market tumbled falling first to $5.80 and later to $5.40.

Following the collapse in silver from $6.40 to $5.40 in January, the class action lawsuit was filed. This did not make a big impact upon trading that day merely causing a 30 cents swing. The more shocking event within this tale of intrigue and collusion came when the President of NYMEX, Patrick Thompson, issued a statement commenting on the worthiness of the class action lawsuit that had been filed in January. Claiming that there was “no basis” for the suit, Thompson went further stating, according to Reuters… “In a period of demand overseas, represented by London spot prices several cents above the exchange’s current month prices, it would be extraordinary, and indeed a cause for concern, if stocks were not being withdrawn from the exchange registered silver depositories to fulfill the demand represented by the higher price.”

The NYMEX statement was taken by many to be a green light throwing its support behind the players by lending credence to the fact that a mere 3-cent premium in London silver accounted for a 50% drop in NY COMEX inventories. In fact, the small premium in London silver existed for a year before the shift from New York to London began. In reality, a 3-cent arbitrage did not make it profitable to move silver from NY to London unless you were trying to hide a purchase of silver. Even if that were the case, a TRUE arbitrage would mean that a like amount of buying into New York would be offset by a like amount of selling in London. Arbitrage trades serve to stabilized markets, NOT cause them to rise by 50% in value. That NYMEX statement made no sense other than as an attempt to discredit the lawsuit and reports of a manipulation. Why the NYMEX issued such an irresponsible statement, in our belief, remains a mystery. Nonetheless, its interpretation was clear. Credit Lyonnais Rouse issued a warning to its clients stating… “the latest round of volatility came as a result of a NYMEX official stating he saw no basis for manipulation in the silver market. This we believe gave those who are behind the squeeze free reign to continue and even intensify its efforts to squeeze the market. This sent the forward market into panic mode, as nearby forwards traded as low as -12%.”

The only purpose behind moving silver from NY to London is to provide a cloak over what activity was really taking place. A large purchase and delivery in New York would be in the open. However, given the fact that London refuses to publish data on even warehouse stocks in its market, it makes perfect sense to deal in London when you do not want the marketplace to know what is really going on. Unfortunately, this also gives cover to analysts who try to pump up the general public by claiming that industrial demand has accounted for a 50% drop in NY silver stocks. With NY the ONLY published statistic on above ground silver stocks, drawing down stocks in NY enables the propaganda to be fed to the public in order to accomplish the goal of driving the prices higher.

The NYMEX statement indeed acted as a green light. Lease rates in London moved as high as 70% after this statement was released. Clearly, the NYMEX statement suggested that they would do nothing to investigate since they publicly stated that there was “no basis” for suspecting a manipulation. It finally took the Bank of England to call a special secret meeting in London inquiring about the silver market. It was at this time that Mr. Buffett made a sudden announcement that he had purchased 129.7 million ounces of silver in London after receiving “inquiries” about his position. It is our belief that the credibility of the NYMEX is in serious question and that they may have jeapardized their own case for self-regulation. We certainly would have stood behind the NYMEX on this issue. However, given their actions in this silver matter, perhaps self-regulation might not be a good idea. Inquiring minds might want to know if the NYMEX was pressured to put out a statement and if so by whom?

There is NO doubt that the London Bullion Dealer’s Association has become the equivalent of a tax haven in the financial community. By REFUSING to publish statistics on what is taking place in London, it protects and even aids those who would rig the entire metals markets either intentionally or passively through their silence. Even the London silver fixing method itself is done behind closed doors and as we saw on February 5th, 1997, may in itself have no real relevance to the open market. The last trade prior to the London fixing on that day had been $7.50. When the doors opened after the fixing, silver was quoted at $7.80. Indeed, one of the dealers suspected of being a lead member came out selling at $7.80 as silver quickly collapsed to open in New York at $7.40 continuing lower to $6.80 before the trading session ended.

Until London is FORCED by the Bank of England to comply with world standard financial disclosure practices, it is NOT safe for investors to participate in the metals market when a “squeeze” is suspected. We must seriously ask the question when bullion dealers are rumored to be involved in a “squeeze” should a exchange or association refuse disclose information that only their members have access to? If the answer to the question is NO, then the integrity of the free market system is totally lost. This cloud of secrecy is not good for the industry and indeed there are some dealers that do not take huge proprietary positions but are being tarnished by the activities of others who would do anything for a quick profit including destroying liquidity as a whole. It is our BELIEF that there is no doubt that the silver market and other metals have been aggressively and professionally controlled in concert by a syndicate who has had KNOWLEDGE of the actions of others through inside information that is blocked to the majority of traders.

It is our belief that at least one hedge fund in particular has been the main player in each and every case. We believe that they were also aggressively short at the “right” time in copper. We believe that this hedge fund was also a noted player in platinum and palladium. We believe this same hedge fund is now rumored to be behind the aluminum squeeze going on in London. One bullion dealer relayed to us that upon approaching this fund for business, they were told that they only did “guaranteed deals”. It is this fund that we believe has gone through many of the bullion dealers and perhaps sub-fund managers in a concerted effort to make sure that their positions are never on the floor of the COMEX and away from the regulators. Some bullion dealers clearly participated and aided in the aggressive trading nature of order execution. Some took aggressive short positions in gold against a long silver position. Others aided by attacking the spreads (switches). Others may have simply executed orders for the hedge funds not realizing that they had just been setup. In total, we are looking at a concerted and coordinated effort working together to not merely push silver prices higher, but to control the ENTIRE metals group.

Gold: Its Role within the Modern Investment Strategy – Aug 1994

Its Role within the Modern Investment Strategy

© 08/94 Princeton Economic Institute
By Martin A. Armstrong

There have been numerous people who have argued that gold is THE hedge against inflation. Many will tout their fancy statistics and point to all sorts of charts in support of their case. Others will argue that gold rises during geopolitical uncertainty and at the first outbreak of war it should be bought. And yet there are still others who claim that gold has LOST its luster and is a throw back to ancient times. In their boasts, they claim that inflation has been vanquished and that gold is no longer needed to stabilize the world monetary system.

In an effort to answer these questions in hope of separating the MYTH from REALITY, it demanded that a very long database be constructed. Looking at gold’s performance over the past 20 or 30 years is simply NOT enough historical perspective to come up with a realistic outcome untainted by subjective theories and biases.
To start, we gathered one of the more consistent time series on inflation – the US Wholesale Price Index. The prices of raw commodities at the producer level have always been a more definitive view of inflation rather than the politically manipulated CPI (Consumer Price Index). Due to the fact that the CPI is used to adjust taxes, real interest rates, social security payments and entitlement increases of all sorts, the formula for the CPI has undergone at least 14 MAJOR revisions since World War II. The last revision of major importance took place back in 1983 when real estate was largely replaced by rents. This revision was significant due to the fact that it accounted for 40% of the total CPI prior to that time. The revision was carried out under the pretense that housing was better reflected by rent than value. Appreciation in housing itself was viewed as an investment – not part of the true cost of living.

As real estate escalates, each subsequent generation not only get less for their income, but are also forced to rent for greater periods of time than the previous generation. Despite this fact, government chooses to IGNORE this aspect. The fact that the standard of living is persistently reduced by this form of long-term inflation and others is of no consequence to politicians who also exclude taxation from the CPI as if this too had nothing to do with net disposable income. Over the long-run, it does NOT take a genius to see that a middle income family during the 1950’s and 1960’s could buy a home and get by with only the man bringing home the bacon. Today, even if women’s rights groups were not around, few newly married couples can survive on only one income no less buy a house and car under such circumstances. This is perhaps above all the most visible effect of long-term inflation and constant escalating taxation. The growth of Government itself has been the single greatest cause of the reduction in the standard of living for all Americans. Where in 1920 it once accounted for 20% of the Civil Work Force – today the government has exceeded 33%. If you simply add all the non-producing government employees, unemployed and welfare groups, you will quickly approach 50% of the Civil Work Force. This means that every privately employed worker must be taxed at least 50% to pay for the unproductive group within society. As this group grows, it reduces the standard of living for the whole. For these reasons and still others, any attempt to adjust a commodity backward in time relative to inflation is not as easy as some would have us think. Consequently, for this discussion, the PPI (Producer Price Index/Wholesale Index) will be used. A valid criticism of our selected index adjustment is the fact that the implied inflation is far less than the “real” inflation experienced by the consumer. Therefore, this study for discussion purposes should be regarded as EXTREMELY conservative and an understatement of inflation as a whole.

Essentially, there are 5 major rallies in gold that took place in the US dollars or its predecessor during the years 1780, 1814, 1864, 1920 and 1980. At first glance it is easy to see that the overall trend for gold has actually been bearish in real terms. The rallies aside, this bearish trend in gold has represented the accomplishments of man. As he has built the great nations of the world and emerged out of the depths of the Middle Ages, inflation has tended to decline on the average since the middle of the 16th century. By our analysis of many sectors, we see that the overall LOW in the long-term historical trend for inflation most likely took place during the 1991 time period. This year also represents the low for gold expressed in 1982 dollars. Accordingly, it appears that we may be on a serious change in long-term trend and that inflation as a whole will tend to rise at least over the next three decades and perhaps even much longer.

This alarming change in trend in long-term inflation is most likely being caused by the opposite reason for its decline. This suggests that what we are going to witness is the overall decline of society from an organized perspective. This declining organizational trend will therefore be accompanied by a higher inflation, as was the case for the fall of the Roman Empire. Inflation rises as confidence in government declines! It is interesting to note that the two strongest rallies for gold in “real terms” (excluding the American Revolution) took place between 1864-1869 and 1971- 1980. During both periods, inflation advanced, as did the price of gold due to the lack of confidence in government. The 1864- 1869 period emerged as the US abandoned the gold standard during the Civil War. The paper currency, which began to flood the economy in 1861, was backed by nothing but the green ink used to print the reverse side of the note thus giving rise to the term “greenback.”

The 1971-1980 era marked the next major period when the United States government was unable to meet its foreign obligations under the Bretton Woods Agreement. As a result, the gold standard was abandoned in 1971 once again and the confidence in government declined taking gold straight upward eventually into a 1980 high of $875.00. This entire period was marked but not merely a collapse in the gold standard, but also a collapse in the confidence of government itself. This period marked the fall of Richard Nixon in August 1974 only to be followed by Presidents Ford and Carter. Ford FAILED to instill a high level of competence in the eyes of the people. President Carter was viewed as honest, yet totally inept. Clearly this was a period where confidence in the Presidency could not have been skewed lower.

The re-emergence of stability was brought about by the Reagan Administration, which talked a good game at restoring the “respect” that America deserved. That change in the way the people looked at President Ronald Reagan helped in bringing about the “DEFLATIONARY” era. Reagan ran on a platform vowing to reduce inflation and the marketplace believed him. Almost immediately, inflation began to subside and the recession began before Reagan even took office. This was a sign that the populace was willing to step back and see what would happen rather than assume that everything would simply move higher in price from one year to the next. There are naturally going to be those who question this interpretation on political grounds. However, the point is “CONFIDENCE” – NOT political agendas. Despite the fact that the National Debt DOUBLED under Reagan while money supply rose dramatically, inflation declined! The Monetarist’s view of inflation FAILED to hold during the Reagan years. If the money supply rose and the National Debt DOUBLED, then inflation should have risen! The reality of the situation is that inflation declined! The only difference between Reagan and the preceding period back to 1971 was a level of “CONFIDENCE” on the part of the people both domestically as well as internationally. As a result, the dollar declined during the Carter era to its lowest point in time since World War II. Under Reagan, the dollar rose to all time record highs by 1985 due to international CONFIDENCE in America’s new role.

It is widely known in medicine that a person CAN make himself ill should he believe he IS sick in the first place. Doctors will confirm that the “will to live” is critical in recovery. It would appear that the economy responds in a similar manner. If things are absolutely disastrous, but the people do not believe so, then the economy holds its ground. The recession under George Bush was far less in magnitude than any previous recession in the postwar era. Unemployment remained well below 10% when it had reached 12% under Reagan. Despite the statistics that support this case, the “feeling” prevailed that the Bush recession was far worse than anything previously experienced. Obviously, Bush lost the election on grounds of appearance or lack of “confidence” rather than hard statistical reality. Hence, the facts are almost irrelevant when anticipation and assumption affect the underlying confidence in any situation.

PANIC OF 1869 The period of 1864-1869 is an interesting one to say the least. The confidence in government was at an all time low. The infamous “Black Friday” was a term first coined to describe September 24, 1869 (See NY Times 9/24/1869). This was a day of financial panic of major proportions – so serious that the government called out the militia to suppress the mob that was storming into banks and hanging the tellers. In an effort to corner the gold market, speculators, including Jay Gould and James Fisk, sought the support of federal officials of the Grant Administration in order to push the price of gold up before the US government returned to the gold standard after the Civil War. The scheme would be for the government to accept whatever free market price gold would reach helped by the “gold-ring.” Therefore, the government was the intended exit strategy for the market manipulators.

James Fisk —————- Jay Gould

The political corruption at the time was ramped and the President’s brother-in-law was rumored to be part of the gold-ring. The attempted manipulation failed as the federal government announced that it would release 4 million ounces of gold – when in fact it intended to release only $4 million worth. Nevertheless, the rally collapsed overnight and the panic ended on a “Black Friday” when many thousands were ruined (See Daily Chart 1868-1869).

The gold-ring’s leader was Jay Gould (1836-1892). From the humble beginnings of a country-store clerk, Gould rose to control half the railroad mileage in the Southwest, New York City’s elevated lines, and the Western Union Telegraph Co. Aided by James Fisk, he defeated Cornelius Vanderbilt for control of the Erie RR. However, this visible episode led to huge public protest over Gould’s stock manipulations and resulted in his expulsion in 1872. Gould then bought in the Union Pacific and other Western roads, and by keen business practices gained control over four rail lines that eventually made up the Gould system. Gould’s scheming with Fisk to corner the gold market in 1869 resulted in the “BLACK FRIDAY” panic.

The lack of confidence at the time was sparked by not only the corruption within the Grant Administration, but also due to the existence of the greenback itself. Although the greenback was legal tender, the unsecured by specie status brought back horrid memories of the Continental Currency Crisis, which was still as fresh in the minds of the populace then as the Great Depression is today. The greenbacks were first issued in 1861 by the US government in an effort to fund the Civil War. By 1865, greenbacks in circulation totaled more than $450 million. Originally issued as temporary, the notes were to be recalled following the war. However, the hard times of 1867 led to demands, particularly by Western farmers, for an inflated currency through the creation of more greenbacks. A compromise was finally reached in 1869, whereby greenbacks to the amount of $356 million were left in circulation; the law creating them was made constitutional in the Legal Tender Cases (1868, 1870, and 1871). The issue reappeared during the Panic of 1873, with hard-hit agrarians, intensely opposed by conservatives, once again demanding creation of more greenbacks. The conservatives triumphed and the Resumption Act of 1875 fixed Jan. 1, 1879 as the date for redeeming greenbacks. With returning prosperity, however, confidence in the government began to soar, and few greenbacks were surrendered. In 1879 Congress provided that greenbacks then outstanding ($346,681,000) would remain a permanent part of the nation’s currency.

The inflation that was created by issuing unbacked currency was viewed as a benefit in those days, particularly among commodity producers. There was even a Greenback political party for a few short years between 1874 and 1876 to promote currency inflation. Its principal members were Southern and Western farmers stricken by the Panic of 1873. They nominated Peter Cooper for president in 1876, but he received only 81,737 votes. Uniting with labor in the Greenback-Labor party (1878), they polled over 1 million votes and elected 14 representatives to Congress. Thus encouraged, and with a broadened program that included woman suffrage, federal regulation of interstate commerce, and a graduated income tax targeted at the rich, they nominated James B. Weaver for president in 1880. But the return of prosperity had suppressed the discontent, and their vote declined to a little over 300,000. Following the 1884 election, the party was dissolved with many of its members joining the Populists movement.

The violent swings within the economy of the United States during the second half of the 19th century can all be largely attributed to a lack of confidence. Political and corporate corruption was ramped and with them – volatility rose causing severe fits between inflation and depression. Panics have been with many since the dawn of time. Historians have recorded real estate panics and debt crisis at the time of Julius Caesar. More recently, perhaps the earliest panic of modern capitalism occurred in France and England in 1720, touched off by wild speculation in the stock of John Law’s colonizing company. The first real panic in the US came during 1819. Others were to occur in 1837, 1857, 1869, 1873, 1893, 1903, 1907, 1929 and of course 1987. Banking instability has also been a historical major contributor to panics along with government.

PANIC OF 1837 The Panic of 1837 was one such incident involving an unstable currency and financial system resulting in a lack of confidence in both government and the banks. An independent treasury system emerged when President Andrew Jackson transferred in 1833 government funds from the Bank of the United States to state banks. The Bank of the United States was a national bank created by the U.S. Congress. The first bank (1791-1811), proposed by Alexander Hamilton and the Federalists, aroused opposition, especially from the West, for its conservative policies, which meant it was against inflating the money supply through means of unbacked paper currency. Its charter was therefore allowed to expire. Difficulties in financing the War of 1812 caused the creation of a second Bank

of the United States (1816-36). It prospered under the management of Nicholas Biddle and effectively served as a central bank. However, this again was viewed as a “TOOL” of eastern commercial interests by the Jacksonians.

Andrew Jackson came to fame when in 1818 he led a reprisal against the Seminoles in Florida and captured Pensacola, involving the US in serious trouble with Spain and Britain. The conduct of “Old Hickory,” as he was called, pleased the people of the West and he was regarded as the greatest hero of his time. Jackson became associated with the increased popular participation in government, which later became known as “Jacksonian Democracy.” His liberal style movement almost won him the presidency in 1824, but the election ended in the House of Representatives, with a victory for John Q. Adams. This left a bitter taste in Jackson’s mouth and pride. Still, he ran again and won the presidency in 1828. Jackson’s victory brought a strong element of “personalism” to Washington and his administration became known as his “Kitchen Cabinet.” Andrew Jackson was also the first President to create the “SPOILS SYSTEM,” which simply meant that all your buddies who helped in the election got fat paying jobs in government – the “spoils” of victory were given to the troops. From this anti-establishment and anti-Eastern States perspective, the fight against the Bank of the United States became an important issue in the presidential election of 1832, in which he defeated Henry Clay. Following his victory, Jackson went about destroying the central banking system of the US and transferred federal assets to chosen state banks, which became known as Jackson’s “pet” banks. This action seriously impaired the confidence in the currency and in 1836 Jackson issued the “Specie Circular,” which said that all public lands must be paid for in specie. This in effect hastened the Panic of 1837 and tended to contradict the private script system where individual banks were allowed to issue their own paper currency.

In 1840, under President Martin Van Buren, an independent treasury isolated from all banks was set up. However, in 1841 the Whigs repealed the law, and it was not until 1846 that the Democrats restored the independent treasury system. The Act of 1846 ordered that public revenues be retained in the Treasury building or in subtreasuries in various cities. The Treasury was to pay out its own funds and be completely independent o f the banking and financial system of the nation; all payments in and out were to be in exclusively specie. In practice, the system created problems in prosperous times by amassing surplus revenue and thus restraining legitimate expansion of trade; in depressed times, the treasury’s insistence on being paid in specie reduced the amount of specie available for private credit. The large expenditures of the Civil War also revealed problems, and Congress created the national banking system in 1863-1864. The independent Treasury was later used to stabilize the money market, but the Panic of 1907 proved the attempt futile. The Federal Reserve Act of 1913 marked the end of the system and the emergence of our current reserve bank establishment.

PANIC OF 1893 Confidence and Panic have always gone hand and hand. In most cases, the Panic has been worse whenever the perception of insolvency within government is greatest. The later part of the 19th century was yet another period when turmoil and chaos seemed to rule.

Grover Cleveland was one of the few presidents to serve two terms that were not consecutive. Cleveland was both the 22nd (1885-89) and 24th (1893-97) President of the United States. An enemy of the “machine politics,” Cleveland was named the Democratic “clean” government candidate to oppose James G. Blaine in 1884, and was elected after a bitter campaign. As president, Cleveland pursued his conscientious, independent course, offending the left-wing zealots of his party by his moderate use of the Spoils System. In the 1888 election, Cleveland campaigned on a lower tariff, but in spite of a popular majority he lost the election to Benjamin Harrison. The Panic of 1893 struck a hard blow at his second administration, and he angered radical Democrats by securing repeal of the Sherman Silver Purchase Act. The Democratic Party stood on the old inflation platform. The Democrats had overvalued silver relative to gold by taking 72 cents worth of silver and calling it a $1. This persistent policy led to the near collapse and bankruptcy of the US government. Cleveland repealed the Sherman Act and attempted to restore a sound currency. In the midst of that chaos, President Grover Cleveland stood before a special session of Congress on August 8th, 1893 and said…

“At times like the present, when the evils of unsound finance threaten us, the speculator may anticipate a harvest gathered from the misfortune of others, the capitalist may protect himself by hoarding or may even find profit in the fluctuations of values; but the wage earner – the first to be injured by a depreciated currency – is practically defenseless. He relies for work upon the ventures of confident and contented capital. This failing him, his condition is without alleviation, for he can neither prey on the misfortunes of others nor hoard his labour.”

Cleveland was a conservative within the midst of a very liberal Democratic party. In hi s Second Annual Message of December 1886 he stated… “When more of the people’s sustenance is exacted through the form of taxation than is necessary to meet the just obligations of government and expenses of its economical administration, such exaction becomes ruthless extortion and a violation of the fundamental principles of a free government.” During his second Inaugural Address [March 4, 1893] he stated… “The lessons of paternalism ought to be unlearned and the better lesson taught that while the people should patriotically and cheerfully support their government, its functions do not include the support of the people.”

Nevertheless, the rift within the Democratic Party widened when Cleveland refused to sign his tariff measure as altered by the protectionist Senator A.P. Gorman. In the Pullman strike of 1894, Cleveland sent in troops and broke the strike on grounds that the movement of the US mail was being halted. In foreign affairs he took a strong stand on the Venezuela Boundary Dispute, and refused recognition to a Hawaiian government set up by Americans. Cleveland’s independence marked him as a man of integrity – a man destined to clash with the liberal inflationist within his own party. That contrast was perhaps never so immortalized as it was by William Jennings Bryan at the National Democratic Convention (Chicago 1896) when he stated…”You shall not press down upon the brow of labor this crown of thorns. You shall not crucify mankind upon a cross of gold.” Glorified words that simply called for unsound finance and inflation as a means to prosperity once again. Conclusion The illustration of gold’s rise in the face of declining confidence in government is endless. The hoarding of gold was so severe during the Great Depression that Roosevelt ended up outlawing the private ownership of gold and confiscated everything the government could find. Quite a drastic police state tactic. Nevertheless, it did happen here in the United States!

In this brief overview of financial history, one striking common theme arises from the trials and tribulations of man – gold rises NOT as a hedge against mere inflation, but as a hedge against the UNSOUND PRACTICES OF GOVERNMENT and/or POLITICAL UNCERTAINTY. Steady rising inflation DOES NOT act as an underlying support mechanism for gold. Its role within the modern investment strategy is a hedge against political and economic uncertainty. Gold has always risen the MOST when the confidence in the government is at its LOWEST! The History of Gold
by Martin A. Armstrong © Princeton Economic Institute

Silver Manipulation, Squeeze or Bull Market? Pt. I – Feb 1998


Manipulation, Squeeze or Bull Market?
Part I

By Martin A. Armstrong
© 02/20/98 Princeton Economic Institute

When you discuss silver, one treads into dangerous ground. To question its value seems to invoke everything just shy of death threats. To many, silver has become a religion. To some, silver is the embodiment of almost a messianic cult where this commodity will rise in defense of all things that are wicked in the financial world. Silver is portrayed as the avenger that will smote those who dare buy stocks and cause the ground the to split wide open into which the Dow Jones Industrials and all its hoards of greedy longs will be hurled to their death. From the ashes of this final battle upon Wall Street, silver will rise like the phoenix to surpass all other commodities leaving gold behind in its dust. Perhaps no other commodity invokes such passion of true believers more so than silver. Even the gold bugs shy in comparison to the glitter of silver’s passionate followers.

Many passionate followers of silver simply block out any notion that a rally might be the product of a concerted manipulation. Of course let silver decline and you will quickly hear the word “manipulator” applied to anyone who dares to take a short position. What is the sad part of this saga is that so many small investors do not have a clue as to the real trading going on behind the scenes. What many will shy away from is the plain and simple fact that there are some very big traders who do not care about direction – only how much money can be made. Within the ranks of this group one quickly finds the hard facts of reality. What goes up also goes down so why not make money along the way. Some of the very same players today who are widely rumored to be involved in forcing silver prices higher are also the very same players who aggressively shorted gold and copper and will soon go for the stops of the passionate longs in silver. To them, it is not a religion – it is simply business. No commodity, stock or bond is immune from the ups and downs of a market. All markets crash when the chorus of willing buyers is all on board and there are no new buyers to come carry the torch further. It is at that moment when profit-taking begins and in the end comes the inevitable change in trend.

There are also misconceptions about the current class-action lawsuit in silver and copper. Some try to portray this suit in silver as only one player. In fact, a class-action lawsuit is significantly different from merely a garden-variety lawsuit. Class-actions are open to EVERYONE and ANYONE who has lost money trading silver. This will include industrial users or the jewelry-trade who were harmed by the 70% lease rates. Such class-actions are NOT funded by one small investor, but are funded by the law firms who are defending the public on a performance basis. While one particular individual may appear as the defendant, it becomes irrelavent as to who that individual is. Such suits allow the small individual to go against a major group or institution on an equal footing.

Unfortunately, we must deal with reality – not bias, passion or prejudice. There is NO question in our mind that silver has been the target of a concerted effort to force its price higher through an all out attack on this market including – forwards, borrowing, options, futures and bogus analytical hype by not so independent analysts. In fact the evidence taken as a whole, suggests that this current rally in silver is merely phase II of a previous attempt to force silver higher, which most likely began back in 1995. And of course there is Warren Buffett who is now being portrayed as Saint Buffett among silver’s passionate followers. Somehow, Mr. Buffett who purchased 129,710,000 ounces of silver is being portrayed as the avenger against those most disgusting of all people – the dreaded shorts and industrial users.

Nonetheless, there are serious questions as to why Mr. Buffett’s order was executed in London at a premium price when the silver was available at a discount in New York all the time. Some have tried to argue that London silver is a better grade of silver than that in New York. Perhaps this myth was propagated by the September COMEX meeting when it was discovered that some silver stored at the COMEX bore hallmarks that had been delisted by London. The “quality” of silver was none the less the same – .999. However, because the hallmarks were of 1974 vintage by firms that no longer existed, prompted the need to have a portion of the COMEX stockpile reassayed making the move of silver from NY to London even more expensive.

Still, in the midst of this passion and confusion, many are afraid to look beyond the hype for the truth may indeed uncover something far less than a natural bull market at work. A closer inspection of the issues behind silver, will reveal that there are indeed players who are up to something very serious and strange to say the least. In fact, the passionate silver supporters are so desperate for a bull market they are willing to look the other way regardless of the facts as long as their precious commodity rises in value.

There is no doubt that silver has been manipulated on numerous occasions both in recent times as well as in the past. Silver has in fact filled the history books with legend, riots, manipulations and financial panics, one of which nearly bankrupted the United States in the process during the late 19th century. Silver was also responsible for bankrupting the Hunt Brothers in 1980 and of course there was the ultimate victim, Ogden Armour, who lost the equivalent of nearly $1 billion per day for 120 days straight following the Great Commodity Crash of 1920. In fact, to date, no one has EVER financially survived an attempt to corner the silver market. As far as gold is concerned, no one has enough money to even attempt such a scheme during this century – at least so far. The last such attempt to corner the gold market took place back in 1869 when Jim Fisk and Jay Gould sent gold soaring to $162 on the New York Stock Exchange creating a wide-scale panic on Wall Street that had to be suppressed by sending in government troops. That Panic of 1869 was the first “Black Friday” in history – the term “Black” referring to the deaths that occurred at the hands of the mob.
Silver Siglos of Croesus 600BC

Silver has been the object of manipulation for centuries. There is NO constant silver/gold ratio that one can find throughout history because governments have also been the manipulators at times. When the first monetary system emerged in ancient Lydia (modern Turkey), there was only “electrum” a natural alloy found in the Sardes river of gold and silver. Because the electrum was natural, the gold content varied considerably from one coin to the next. With smelting technology, it became possible to separate the two metals and a bimetallic monetary system emerged with a ratio establish at 8:1 dictated by Mother Nature herself. The silver/gold ratio has always varied from well over a 1000:1 to as little as 8:1 during the past 4,000 years. However, the silver/gold ratio has been determined purely by current supply. Silver has been so common at times that it was even demonetized from time to time leaving gold as the ONLY acceptable medium of exchange.

Over time, the silver/gold ratio has been established based upon the varying supplies of the two metals in accordance with discoveries. During the California gold rush of the 1850s, gold became so plentiful that the US mint struck 936,789 gold $1 coins compared to only 62,600 silver dollars in 1849 – a ratio of $15 in gold to every $1 in silver. The abundance of gold, however, was quickly displaced when the great silver mines were discovered in the West. In 1878, the US Mint struck $22,495,550 silver dollars compared to $3,020 in gold dollars – a ratio of $7,448 in silver to every $1 in gold. On a weight basis, the Silver Democrats inflated the money supply by coining silver at a ratio of 16:1 (28.73g silver to 1.672g gold). Our illustration of Puck magazine from March 11th, 1885 portrays Columbia drowning in silver dollars worth only 72 cents. This situation became much worse over the following 10-year period.

The silver discoveries in the Western United States during the second half of the 19th century created one of the most passionate debates over this white metal in recorded history. Who can forget reading about William Jennings Bryan and his memorable political speech “thou shall not crucify mankind upon a cross of gold”. Bryan’s memorable words were in fact the campaign plank of the “Silver Democrats” who were trying to maintain the old silver/gold ratio of 16:1 that had existed prior the new silver discoveries. In effect, they were flooding the money supply with overvalued silver with a minting ratio of 7448:1. In reality, the Silver Democrats were merely trying to spend more than they had – not much different from the post World War II era. The problem that they created by trying to artificially keep silver prices at pre-discovery levels led to the near collapse of the United States government itself. In accordance with Gresham’s Law (bad money drives out of circulation good money), people hoarded the much rarer gold and freely spent silver. In the end, the government found that the people paid their taxes only with the inflated silver and the Treasury was left without any gold. This was a critical point in history for without a gold reserve to meet international payments, the US found itself very much in the same position that Korea now stands in 1998. Old J.P. Morgan came to the rescue by putting together a consortium of banks that lent the US Treasury $100 million in gold so it might be able to meet its obligations. Quantities of silver dollars minted dropped significantly following the Panic of 1893. Gradually, from the lowest mintage in 1895 of $862,000 silver dollars, the quantities of silver dollars coined began to rise once again in 1896. The attempt to maintain the overvaluation of silver caused numerous minor financial panics between 1896 and 1903. Finally, the US Mint stopped issuing silver dollars altogether in 1904 following the Panic of 1903 and did not resume issuing silver dollars until after World War I in 1921. In total, the US government issued silver coins in excess of 3 billion ounces between 1878 and 1934. For the most part, the vast majority of that silver coin still exists today not counting more than 2 billion minted after the war. Most of what was melted during the 1980 boom was postwar dimes, quarters and half-dollars along with sterling flatware.

The passionate believers in silver prefer to ignore the real facts about this metal. One of the primary reasons we remain long-term bearish for silver relative to gold is based upon the real facts. Unlike base metals, the majority of silver that has been mined over the centuries STILL exists. Of the more than 10 billion ounces of silver coin minted worldwide during the past 120 years, the vast majority again STILL exists. Analysts who try to put together statistics on above ground stockpiles do NOT have the facts on warehouses in Europe that do NOT report on their holdings. There is NO consideration about how much silver coin is still held by the public. All we can do in this regard is look at the official mintage records of governments worldwide. Throughout history, there has never been a single successful silver “squeeze”. No matter how much money someone has, there is simply far more silver in the hands of the average man on the street to stop any rally as has been the case with central banks and gold. It has ALWAYS been this hoard of silver that pours out in response to higher prices. It was this hoard of silver in the hands of the public that caused the collapse of the market back in 1980. The Hunts had more than 20% of total world supply (Buffett has only 20% of one-year’s mine production) when the public responded in droves. When the dust settled, so much silver had poured into the above ground stocks that the price of silver has yet to recover DESPITE an annual deficit between industrial consumption and mining over the past 18 years.
With all the hype about Warren Buffett taking a position in silver, one must look upon this market from an objective position. Many suggest that Mr. Buffett engages in ONLY long-term investments while others argue that he is infalible – neither of which is true. Therefore, those who want to see silver higher argue that Mr. Buffett will “never” sell. There are two points that must be considered here when trying to separate the hype from reality. FIRST of all, the silver Mr. Buffett purchased was ALREADY the property of someone else sitting in storage be it in New York or London. What has taken place is that silver has moved from one buyer to another. The same amount of silver still exists and NO silver has actually been CONSUMED by industry over and above normal levels. Mr. Buffett’s purchase is NOT a donation to the cause. It will be available for sale at some point in time and at some undefined price. If Mr. Buffett had contracted directly with the mines to purchase silver to prevent it from coming to the market, then one might make a case that “supply” has changed. However, Mr. Buffett has only purchased what was already sitting the vaults in NY and caused it to be at least indirectly moved to London by executing his order in that market rather than New York. Perhaps when Mr. Buffett learns about the TRUE cost of owning silver, it may be available sooner rather than later. Fundamentally, nothing has changed in the supply-demand outlook for silver! Anyone who argues otherwise may have a hidden agenda themselves.

The SECOND point concerning Mr. Buffett’s new silver venture is that he is about to discover the difference between owning stocks for the long-term and a commodity. Keep in mind that holding a physical commodity can be the WORST investment anyone will ever make when you are dealing with an issue of storage. Unlike a stock, which pays dividends and can be kept in a safe-deposit box, the cost to store one contract of silver on COMEX (5,000 ounces) is $18.50 per month. This works out to be 0.37 cents per ounce PER MONTH. After two years, the storage cost and interest loss on the one-ounce of silver amounts to 9 cents for storage and 69 cents in income loss (assuming 5.7% interest). This means that by the end of 1999, Mr. Buffett’s cost for his investment will be $6.53 per ounce ASSUMING his average purchase price was only $5.75. Without a speculative bubble to push prices higher, owning silver can be one of the WORST investments anyone will ever make when the metal is physically being stored. In comparison, the cost to store gold is 7 cents per ounce per month or 84 cents annually – a far cry from the percentage costs incurred when holding silver. Keep in mind that silver takes up about TWICE the vault space at the SAME weight compared to gold. Because the cost to hold this metal is so high compared to others, silver has been the WORST possible investments anyone can make in the metals group. Even if you are holding $1,000 face value of silver coin from 1963, the melt value of that silver at $7 is $5,100. That same $1,000 invested in a bond at 5.5% in 1963 would be currently worth $6,872 and that same value invested in the Dow Jones Industrials, including dividends, would be worth in excess of $13,000. When we compare that $1,000 worth of silver coin to gold, it still falls to the bottom of the investment list. $1,000 worth of gold in 1963 is still worth $8,571 at $300 per ounce. Because of the high cost of owning silver, anyone who holds this metal in a large quantity – LEASES it. By lending out your metal you can reduce this cost factor while you still own silver or gold at your original cost price. While some believe this is a conspiracy to keep prices down, in reality it is a matter of survival. Mr. Buffett may be a shrewd investor, but he is not stupid. Perhaps someone has convinced him of silver’s great opportunity without fully explaining the cost factors of holding the white metal. Unless he is prepared to watch his paper profits be eroded by the high cost of owning physical silver, Mr. Buffett will most likely start to at least LEND his silver into the marketplace sooner rather than later for what he calls a “modest fee.” What Mr. Buffett should be most concerned about is that he himself could one day become a target of a “squeeze”. By lending out his metal, someone else can come in and take delivery and start the game all over again. It is no secret that we have been warning about a manipulation in silver since last August when first published in our World Capital Market Report. nOur warnings were later echoed by Union Bank of Switzerland, Merril Lynch and even Credit Lyonnais Rouse. We have been warning that there was NO change in industrial demand that would account for a sudden decline in warehouse inventories of nearly 50% at the COMEX. We have been warning that silver was being shipped from New York to London where warehouse inventories are NOT reported to the public. Everything we have stated here has now been proven to be correct. Despite the rantings of analysts who have proclaimed a new bull market in silver due to the deficit between mine production and industrial consumption, the announcement of Mr. Buffett’s purchase of 129,710,000 ounces of silver in London confirms that there was NO sudden change in the supply/demand equation. If anything, the cost to mine silver is well below $2 for many companies and the higher prices have now encouraged a burst of new supply headed straight for London.

In the midst of this controversy, there are those who have seriously distorted the facts about how the commodity market functions turning this entire issue of a silver manipulation into a battle between longs and shorts. It has been suggested that users and shorts have manipulated the price of silver lower for the past 15 years. Everything from derivatives, loans and leasing have been characterized as manipulations to keep silver prices lower in some giant conspiracy as if it were a religious persecution against the faithful. What is never discussed in this argument is the fact that in the commodity and futures markets both shorts and longs exist in EQUAL proportions. Futures and cash forwards DO NOT function in the same manner as stock markets. In stocks, short positions are a tiny fraction of the market as a whole. Stocks trade in the same manner as real estate in the sense that someone buys from a person who is already long. If the market goes up in price after the transaction, it is a direct function of demand and the person who sold you the stock or property before only lost the “opportunity” to make further gains. In the futures and forward markets, there can be NO long position unless someone sells it to you. These are contracts for future delivery. Hence, the futures and forward markets must at ALL times be equally balanced. For every long position there must be an equal and opposite short position.

In commodities, the MAJORITY of short positions in a given market are usually physical holders of that commodity or producers. The PURPOSE of the futures and forward markets is to facilitate trade NOT to serve speculators! A farmer needs to lock in his profit on his crop so he does not go bankrupt if prices suddenly collapse below his cost. A farmer is merely trying to make a living not gamble his entire future on what price the crop will be months in advance. Mining companies use the futures and forwards in the same manner. In many cases, small mining operations CANNOT qualify for a bank loan unless they HEDGE their future production at a fixed price against which the bank will then provide credit based upon that GUARANTEED future sale.

It is a serious distortion of the facts to target producers and shorts as if it were some conspiracy against long positions. Metal loans, leasing and forward contracts never stopped the rallies in 1980 and indeed without them there can be NO rally in the first place! If producers are not there to sell forward, speculators will be unable to buy anything. A producer MUST sell forward as a function of staying in business. A speculator must take a view as to what he BELIEVES the future price might be. To distort this free market system into a war between natural business and speculative longs is a gross mistake, which only serves to undermine the integrity of the system as a whole.

To set the record straight, a “squeeze” in futures and forwards is an intentional effort to manipulate a market by attempting to disrupt the natural flow of that market by cornering the immediate supply. The telltale sign of a manipulation is when a market is forced into “BACKWARDATION” a condition when the forward or future price of that commodity is selling significantly lower than the current spot market. Under normal conditions, a producer will sell forward his production as a hedge against an uncertain value. In many cases, the producer may in fact have no plans to actually deliver his commodity on that contract but will sell production on the spot market when it becomes available lifting his hedge simultaneously. When a “squeeze” is as aggressive as what we have seen in copper, platinum, palladium, aluminum and now silver, the casualty here is the marketplace as a whole. What happens when a market is professionally put into backwardation threatens the very existence of the marketplace long-term. The net result of this “squeeze” discourages normal hedging. Producers cannot sell forward into a market that has been artificially forced into backwardation. Therefore, the end result becomes less liquidity and a prolonged “squeeze” threatens the entire viability of the market. No one can sell the current spot contract unless he has the commodity to deliver. What happens when a market becomes manipulated into backwardation causes producers to begin to contract directly with users bypassing the market altogether. This undermines the exchange and ultimately can kill a contract entirely as we have seen in the past.

Since last August, we have been warning “they’re back!” Based upon our own sources and the evidence we have seen on the trading floor of the COMEX, we became convinced that someone was attempting to once again “squeeze” the silver market to force prices higher. Some analysts swore on their reputations that the fundamentals in silver had suddenly changed. One analyst who specialized in metals claimed he could account for “every ounce of silver” but refused to explain precisely where 100 million ounces had disappeared. We warned that the silver was being shipped off to London this time instead of to Delaware, as was the case in 1987. The US government statistics showed that prior to June 1997, only 15% of all silver exports were made to London. However, since June 2nd, 1997, almost 60% of all silver exports from the US were made directly to London. We saw NO truth in the argument that dealers were shipping silver to London on a 3-cent arbitrage as suggested by NYMEX. What we saw in this market was aggressive trading patterns that implied manipulation.

Silver Manipulation, Squeeze or Bull Market? Pt II – Feb 1998


Manipulation, Squeeze or Bull Market?
Part II

By Martin A. Armstrong
© 02/20/98 Princeton Economic Institute

The propaganda machine swung into action. By drawing silver out of NY and shipping it to London, a key element in a “squeeze” was accomplished. The marketplace must be convinced that there is a shortage of silver. Since London refuses to report any statistics on warehouse stocks, this provides the perfect excuse for a “squeeze”. With NY the ONLY source for reported above ground stocks of silver, the propaganda could be fed to the media that a shortage in silver was “real” by checking COMEX inventories. Indeed someone had drawn down the COMEX silver stocks and shipped it off to London on whatever 747 flight they could charter. By the end of 1997, 105 million ounces of silver had been sent to London – more than 60% of the total US silver exports, according to the US government. The old inventory ploy behind every squeeze in history had been successfully pulled off once again. Republic National Bank, who was NOT named in the class-action lawsuit, was the biggest mover of silver from NY to London. According to the London FT, “Republic stocks fell from 78m to 34m ounces in the second half of 1997, a 56 per cent reduction compared with 40 per cent for COMEX stocks overall.”

While the old shortage trick worked to suck in those who wanted a bull market in the precious metals at any cost, the truely interesting aspect about inventories and price is that there is no solid correlation between the two. Silver stocks continued to decline following the 1995 squeeze right into the beginning of 1997. When Wilmington Trust of Delaware was merged into the COMEX warehouse reporting system in January 1997, the DOUBLING of the inventories was met with a rally instead of a decline. The reason we cautioned readers about propaganda based upon COMEX inventory figures is because one can make up any story to fit your agenda. In fact, the same analyst who argued that the decline in warehouse silver stocks in 1997 was due to industrial demand, had a different take at the beginning of 1997. This same analyst argued that the doubling of the inventory when Wilmington Trust was added to the COMEX, was in fact a non event because the overall supply of silver had not changed. Nonetheless, it is clear now that Mr. Buffett’s purchase took place in London and in effect accounts for only moving silver from one warehouse to another, which should also be a non event.

Another point that should be made here is the trend in gold-stocks at the COMEX. Gold stocks in fact declined from more than 1.8 million ounces to 466,367 ounces over the past two years. This decline in COMEX gold-stocks amounts to virtually 75% compared to silver’s decline of only 50%. If COMEX inventories are a true indicator as to price or change in industrial demand, then gold should be trading at $600 rather than $300. It appears that some analysts have a hidden agenda. They clearly pick and choose what fundamentals to report based upon what market they may want to talk up. In the absence of hard core data on London and Zurich silver stocks, they merely made up the story that of course European inventories declined in proportion to what was taking place in New York. In reality, that has proven to be totally bogus hype. The question is why make up false trends if an analyst is truly independent?

With the admission by Warren Buffett that his company has purchased 129,710,000 ounces of silver in the London market, it is important to note that it is not a manipulation for someone to simply buy a lot of silver. To set the record straight, Warren Buffett has NOT suddenly become a commodity manipulator in our opinion. Mr. Buffett was NOT the trader who executed the orders in this silver market. We do have serious questions as to why his order was executed at a higher cost in London and why it took so long to buy that much silver? Still, Mr. Buffett issued a statement through his company, Berkshire Hathaway, stating that he has purchased “NO OPTIONS” and “HAS HAD NO KNOWLEDGE OF THE ACTION OR POSITIONS OF ANY OTHER MARKET PARTICIPANT AND TODAY HAS NO SUCH KNOWLEDGE.”

It is our belief that there is a group of people who had KNOWLEDGE of Mr. Buffett’s order to buy silver and that they tagged along and/or ran in front of his orders pushing the price higher. The trading STYLE employed in the market was highly professional. It is our belief that there was an INTENTIONAL effort made to SQUEEZE the market in order to force Mr. Buffett to pay a higher price or his order was taken advantage of to enhance a previous position. There is no reason why the purchase of 25,000 contracts could not have been executed within less than a $1 trading-range. After all, Kodak announced that they hedged 50 million ounces of silver at $4.95. Why then was Mr. Buffett’s order NOT filled between $4.29 and $5? We believe that a coordinated group has been at work not merely in the manipulation of silver, but also in platinum, palladium, aluminum and even copper. In each case, the attack has been a coordinated effort and it has been carried out with the same identical strategy.

According to Mr. Buffett’s press release, he would have announced his silver purchase in his upcoming annual report, which in effect placed a timetable on his announcement. Clearly, the aggressive attack on silver was carried out by professionals who then “squeezed” the market as tight as they could. The attack intensified after the NYMEX statement (see below) was released arguing that they saw no manipulation on COMEX and tried to claim that they would expect silver to be shipped to London if there was a premium. The backwardation in silver increased following the NYMEX statement and the discount of NY silver to London more than doubled the following day. Clearly, the NYMEX statement itself seems suspicious and indeed many viewed this to be a green light backing those behind the squeeze.

We believe that Mr. Buffett’s order was most likely to buy 200 million ounces (this is the number that has been widely discussed in the marketplace since October).As the manipulators sent the lease rates for silver soaring to 60-70% (normal rates were 1-2%), the London market was on the verge of default. Normal 5-day delivery had to be extended to 15 days suggesting indeed that London had been pushed into default position. The Bank of England had begun to make serious inquiries. Within hours of us receiving information about a secret emergency meeting being called by the Bank of England the following morning, suddenly Mr. Buffett made an announcement that he had purchased silver in London. Perhaps this may have been the “inquiries” he said he had received. Since his last purchase had been made prior to the NYMEX statement, it must have been obvious to him that indeed others pushed the market very aggressively causing a near default in London. We believe that his statement that he and his company had “no knowledge of the action or positions of any other market participant” strikes directly at what we are talking about. We do believe that his activity was tipped to others in the market and the front running began. His name was rumored to have been the client behind Phibro back in 1997. We ourselves believed that Warren Buffett’s name was being used as a cover for others who’s activity was clearly not coming from Phibro. However, that information proved to be correct suggesting that there were people who indeed knew of Mr. Buffett’s order outside of Phibro. It is this group of players who seemed to be in a big rush to force silver prices higher and as fast as possible. Given the fact that Mr. Buffett also stated that he would have announced his purchase to his shareholders in March must have also been known in the marketplace. It is our belief that this information was the driving force behind the activity of the front-runners.
The curious factor here is Mr. Buffett’s statement itself using the word “knowledge.” There is a significant difference in the legal definition of “knowledge” and “information”. We may have information that the Tiger Fund also purchased 50 to 100 million ounces of silver piggybacking on Mr. Buffett’s order as reported by Barron’s. However, we do NOT have “knowledge” that this is in fact 100% accurate. Mr. Buffett’s statement in no way suggests that he KNOWS for certain that others have been engaged in front-running. At the same time, his statement does NOT deny that he may have “heard” information to that effect and subsequently canceled the balance of his order.

From what we can see here, silver is starting to pour out of every crack in the pavement. When all the ships land in London, people are going to be surprised at how much silver is really out there. We also believe that there is at least another 150 million ounces that ended up in London from the failed 1995 silver “squeeze”. If the London dealers ever come clean on reporting all inventories held in European vaults, people will learn the truth behind a vast hoard of silver currently being held by a group of players in this market. Reliable information from Europe tells us that there is so much silver stored in the vaults in London that there is a shortage of storage space. Our sources also tell us that selling is starting from Asia and we would expect 40 million ounces to hit London by the end of March alone, perhaps in addition to 17 million ounces held in the terminal at Dubai. The retail public is selling silver in the United States. Handy & Harman and Engelhard refiners stopped accepting silver from the scrap metal industry during mid February due to the fact that they were backlogged with a 3-month supply. Coin silver bags crashed in value from $5,100 to $4,200 because the public was selling so much silver at $7. Even in India, (which had represented 16% of total world demand), buying has stopped since December. The public in India is now starting to sell back their silver because given the rise in the dollar, silver has risen even higher in Asian currencies. According to Business Week, Indians are selling silver for cash while some are buying gold with their proceeds. To quote Business Week…”960 million Indian sellers vs. one billionaire buyer from Omaha.” Chile’s La Coipa mining company told Bridge News that they were stopping all production of gold and shifting their attention 100% to silver and intend to put out 30.7 million ounces this year. Even the refiner Johnson Matthey has doubled its output in silver and has been quoted by BT Commodities stating that there was so much silver in London “its coming out our ears.”

It is our belief that the jig is up. Mr. Buffett may have been a patsy in this entire affair sucked in to improve the positions of others from 1995 and used as an excuse to go crazy on the upside by others who had KNOWLEDGE of his order. This current “squeeze” will be over soon and those who ran in front of Mr. Buffett’s order will be selling everything to whatever sucker is foolish enough to place a buy order in this market. This is why with all the changes in the sudden increase in supply being reported from all the media sources including our own, it is totally bogus for anyone to purport that the fundamentals look good for silver. Clearly, such statements must now be viewed as highly suspicious in a game of very big bucks.

This brings us to the central question of manipulation. It is our BELIEF that there is NO DOUBT given the mountain of evidence that there is indeed a conspiracy to push the silver market higher. The only way we can be WRONG on this point is if Mr. Buffett is not telling the truth – which seems unlikely. Aggressive borrowing of silver in London pushed the London silver premium to 40 cents above New York AFTER the NYMEX statement and AFTER Mr. Buffett claims to have made his last purchase. We BELIEVE that this was the action of the front-runners who had little choice but to thrust the market higher to $7.40 after they lost Mr. Buffett as their exit strategy. At that point, they had to suck in the public and the fund managers into this market in order to reduce their position. Had they simply began to sell after Mr. Buffett’s withdrawal from the market, silver would have collapsed back to $5. However, there is also a mountain of evidence based upon historical trading patterns, which suggests that it is not merely silver but the ENTIRE metals group from copper, platinum, palladium, silver and aluminum that has been targeted by this group. It is entirely possible that not one rouge trader is behind this effort but indeed there is a “syndicate” involving at least 2 to 4 trade houses and one or two hedge funds.

Manipulations in a commodity are fairly easy to pick out despite the misnomer that they are difficult to prove in a court of law. Bull markets NEVER begin in backwardation they end in backwardation! During the bull market of 1980, silver NEVER moved into backwardation until the very tail-end of the rally. The backwardation in 1980 was caused by the fact that the public was standing in line selling their sterling silver flatware and coin silver. There was so much silver around, but it was not in the PROPER form for delivery on the COMEX. Coin silver was only .900 fine while sterling was .925 fine. The refineries were backed up for months while another segment of the public was buying silver bars. This meant that .999 was sold out in the retail stores but there was, in fact, billions of ounces of silver floating around in less than .999 fine grade. For this reason, the forward and futures contracts were selling at a discount to the current spot market. Even silver coin was selling at below its melt value. This was a reflection of the “real” conditions of the cash market. Manipulations are ALWAYS distinguished by someone pushing a market into backwardation at the BEGINNING of a rally. They have “squeezed” this market by borrowing everything they could get their hands on thus forcing the spot prices higher. The forwards and future contracts are at a discount because there is NO “real” shortage long-term. The backwardation created by manipulators is intended to create the ILLUSION of a bull market when in fact it is the reflection of a market about to collapse as was the case in 1980. IF THOSE BEHIND THIS SILVER RALLY WERE TRUE LONG-TERM INVESTORS, THEY WOULD NOT HAVE BORROWED SILVER TO CREATE THE IMPRESSION OF A SHORTAGE THROUGH BACKWARDATION – THEY WOULD HAVE TRIED TO BUY DIPS. Forcing silver prices up this fast PROVES that they are only interested in taking a short-term profit – NOT holding silver for a long-term investment.