The Story of Silver

by William L. Silber

  His days as a psychiatrist were numbered.

  Henry was only mildly surprised that he had not heard from Richard for two years since sending him the March 1965 Fortune article on the silver shortage. He knew Richard had been pursuing his passion for roulette before most casinos in Las Vegas and Monaco banned him for making too much money. Back then roulette wheels were made of wood and were slightly unbalanced so there were small but significant regularities in the supposedly random outcomes. Richard’s careful observation and money management made him millions, just like the early “card counters” at blackjack, but also left him on the street after casino owners tossed him from the fanciest establishments. One casino operator said, “Dr. Jarecki is a very nice man with a very clear mind and strong nerves, but he wins too much.”15 He said, “If the casino directors don’t like to lose, they should sell vegetables.”

  In early spring 1967 Richard arrived at Henry’s home in Woodbridge, Connecticut, where many Yale faculty members lived, carrying a shoebox filled with silver certificates. It was the residue of his collection after the Treasury decided to redeem certificates in bullion rather than silver dollars.16 The Las Vegas casinos paid up for cartwheels, not bullion. Richard was on his way abroad, wanted to exchange the certificates for a less bulky stash, and thought Henry might be interested, considering the article he had sent. Henry recalls, “I didn’t know he had paid any attention to it,” but since he had, “I took the shoebox.17

  Henry was still teaching psychiatry at Yale and running a community clinic, but he always scrutinized the financial pages of the newspaper. He knew that silver had been stuck at $1.293 per ounce since mid-1965 because the U.S. Treasury had been selling the white metal to all comers at that price to discourage hoarding the old-style silver coins. A chart of silver prices was as flat as the desert horizon and about as exciting, but Henry suspected that might not continue, and if prices rose, the shoebox would produce a windfall. Richard had told him there were $1,293 Treasury certificates inside, just enough to get a one-thousand-ounce bar of bullion from the government. The detail-obsessed Henry wanted to see exactly how that worked, so he conducted a trial run as though he were preparing a million-dollar heist. He brought the cash to the Federal Reserve Bank of New York on Liberty Street in Lower Manhattan, got a receipt for the certificates which he took to the New York Assay Office a few blocks away, and then lugged a seventy-pound bar of 99.9% pure silver back to his house on Rimmon Street in Woodbridge.18 Satisfied that it could be done, Henry left the dull-gray elongated brick on his front porch, using it as an occasional doorstop, until a neighborhood jogger questioned his common sense. The jogger smiled after Henry said he was a psychiatrist.

  Henry’s preparation paid a giant dividend on Thursday, May 18, 1967, when the U.S. Treasury changed its silver policy. Demand for the government’s bullion had soared since the beginning of May, perhaps because President Johnson had just appointed the Joint Commission on the Coinage, which would recommend when the Treasury should stop defending the $1.293 price.19 The Treasury had received orders for more than 30 million ounces of silver during the first two weeks of May, compared with a monthly average of 13 million ounces since the beginning of the year.20 To stem the outflow of the white metal the Treasury announced that going forward it would sell free silver only to those “legitimate domestic concerns which use silver in their business,” and it also prohibited the export or melting of silver coins.21

  The new policy created two prices for silver bullion, $1.293 at the Treasury for companies like the American Smelting and Refining Company and a free market price determined by competition among speculators, hoarders, and exporters. Within a day of the news, traders drove up the free market price of silver bullion to $1.49 an ounce, easily surpassing the old record of $1.38¼ made on November 25, 1919, in the aftermath of the Pittman Act.22 It was the beginning of a shining era for the tortured white metal, a turnaround in the fortunes of silver buffs that would have pleased William Jennings Bryan, and there was more to come.

  The new regime brought an immediate smile to Henry Jarecki, who knew that two prices for the same commodity invited arbitrage, whether it was for Nescafé coffee or silver bullion. Domestic industrial companies could get silver from the Treasury at the preferred $1.293 price but so could holders of Treasury certificates. Henry also knew that the Commodity Exchange (Comex), which had reopened courtesy of JFK in 1963 after a thirty-year hiatus, sponsored trading in silver for future delivery. For example, the buyer of a July 1967 futures contract agrees to take delivery of silver in July and the seller agrees to make delivery in July and both parties agree on the price today. Speculators on Comex bid up the price of those futures contracts after the May 18 Treasury announcement and by the following week, on Wednesday, May 24, silver for July delivery settled at $1.544 an ounce.23 Henry’s eyes widened at the thought of selling a July contract for $1.544, paying $1.293 for bullion at the Treasury using silver certificates, and delivering the white metal about a month later to a Comex warehouse. He sat down after dinner that evening at the kitchen table with his hand-cranked adding machine and was still there in the morning when his wife Gloria interrupted him, saying, “What have you been doing?” Henry grinned, trying to impress her: “I just made a million dollars.” She shrugged her shoulders—show me.24

  A million dollars was a lot of money in 1967. Baseball Hall of Famer Willie Mays earned $125,000 that year, the highest in the major leagues, and the average baseball player’s annual salary was $19,000.25 Henry knew that to make a million dollars he would need $6,465,000 silver certificates to get 5,000,000 ounces of silver at the Treasury. He would then deliver the 5,000,000 ounces on Comex at $1.544, which was 25¢ more per ounce than the $1.293 price at the Treasury. Subtracting about 5¢ an ounce for delivery costs would mean a net profit of 20¢ an ounce, or a million dollars on 5,000,000 ounces.26 More than $500 million Treasury certificates remained outstanding at the end of May 1967, and all he needed was to get hold of some.27 And that proved much harder and more costly than his sample calculations suggested, which, strangely enough, made his million dollar boast to Gloria an underestimate. It discouraged competitors.

  Henry found almost no silver certificates at the local New Haven banks, so he placed a tiny advertisement in the New York Times: “We Will Buy Silver Certificates. … Call Mr. Benson,” and to further camouflage his arbitrage activities from his Yale colleagues, he put the New York telephone number of a friend in the ad.28 The response to the advertisement produced more silver certificates in a day than Henry had acquired during a month in New Haven, perhaps because he offered to pay a premium above face value for each certificate. More importantly the ad put Henry into contact with Nat Shane and Sol Amelkin, owners of the Terminal Trading Company, who responded that first day with 156 Treasury certificates, the largest single transaction.29 Henry went to their headquarters on 14th Street in Manhattan, a storefront check-cashing business housed in a rectangular room with a bulletproof glass separating the workers from the friendly clientele. When Henry learned they had ten such locations throughout New York City, ideal collection points for silver certificates, he asked whether they wanted to go into the arbitrage business with him. They thought it was a scam and responded politely with “it’s much too complicated,” confirming Henry’s instincts that arbitrage profits lay in executing the details.

  He established a company called Federal Coin & Currency, Inc., rented a one-room office in Manhattan, hired an assistant named Susan Silverman, and bought silver certificates from Terminal Trading and from coin dealers throughout the country. Whenever he accumulated 12,930 silver certificates, enough to get 10,000 ounces of 99.9% pure silver from the Treasury, he would sell one Comex futures contract, allowing him to deliver those 10,000 ounces and locking in the price difference. The arbitrage activity soon brought press coverage and forced Henry to pay an increasing premium over face value per certificate, narrowing his profit margin. The Washington Post headlined: “N.Y. Speculators P
ay $1.12 for $1 Silver Bill” and explained that a “$1 silver certificate … is redeemable for 77/100ths of an ounce of granulated silver.”30 Henry did not like being called a speculator, thinking he was more businessman than gunslinger, but the publicity attracted individual entrepreneurs to his collection network, softening the indignity. A Pan American Airlines pilot named Paul Gibson, who flew regularly to Liberia, where the U.S. dollar was the national currency, became an especially valuable resource, bringing sacks of silver certificates to Henry’s office that had been “buried beneath the mud huts of tribal chieftains.”31 Henry recalls that you could smell Paul coming “the moment he got off the elevator three hundred feet away.”

  The government acted to cool the overheated silver market as spring turned into summer, pressuring Henry to accelerate his arbitrage. On June 24, 1967, President Johnson signed a bill limiting the right to exchange Treasury certificates for silver bullion to one year.32 The arbitrage game would end after June 24, 1968, when holders of silver certificates would receive Federal Reserve notes rather than bullion. The arbitrage became potentially more profitable, however, after the Treasury announced on Friday evening, July 14, 1967, that it would no longer sell silver to domestic firms at $1.293 because there was a sufficient supply of the new copper-nickel coins to eliminate a threatened shortage “even if some of the silver coins should be illegally melted down.”33 The New York Times quoted a high Treasury official explaining helpfully that sales of silver had to end at some time and “now that time has arrived.”34

  The price of silver jumped by almost 6% to $1.80 per ounce when the Treasury announced the sales suspension, putting an end to the two-tier market that began on May 18, 1967, and making Treasury certificates more valuable as well.35 Each certificate was worth about .77 times the price of silver, or $1.39 when the price was $1.80. The Wall Street Journal trumpeted the bonanza: “The ‘gold rush’ is on again only this year it’s for silver. Newcomers needn’t pack picks, shovels, and Klondike maps; just have wads of paper money (silver certificates to be specific).”36 The publicity forced the price of each certificate to reflect the value of the underlying bullion, so Henry began paying .72 times the price of the Comex spot silver contract for each certificate, equal to $1.30 when the price of spot silver was $1.80. His gross profit margin was $1.39 minus $1.30 or 9¢ an ounce. Subtracting delivery costs of 5¢ per ounce left him with a net profit of about 4¢ on the outlay of $1.30, or about 3%, which sounds small. Henry had to sharpen his arbitrage pencil to make a million dollars and impress Gloria, which he did through the magic of leverage.

  Borrowing money to buy an asset, which is the definition of leverage in finance, can turn pennies into millions. Three cents per dollar invested does not sound like much, but borrowing $10,000,000 and completing the arbitrage in a month produces $300,000, which is a nice start. Subtracting borrowing cost of about 5% per annum on $10,000,000 removes $41,666 for a month’s interest, giving a net monthly profit of $258,334. Repeating the process every month generates more than $3 million for the year, confirming the power of the arbitrageur’s mantra: “Do it as often as you can, as quickly as you can.” It is not appropriate for every activity but that is how arbitrageurs become multimillionaires.

  Henry had the right idea but the wrong degree: a banker could get fired for lending $10 million to an overconfident Yale psychiatrist with delusions of alchemy. His scheme to turn silver certificates into a gold mine managed to raise only $200,000 from the Bankers Trust Company in New York City, and only because John Weisman, a successful businessman who had come to Henry for marital advice, vouched for the plan.37 The small-scale arbitrage left Henry well short of his million-dollar goal, but that was just the beginning of trouble. On Thursday, October 12, 1967, the government almost put Henry out of business. The U.S. Treasury announced that it would no longer redeem certificates with bars of 99.9% pure bullion, the grade of silver required for Comex deliveries.38 The Treasury said it would meet its obligations in full but with silver from its West Point Depository, which is between 99.6 and 99.8% pure, rather than from the San Francisco Assay Office, which is 99.9% pure silver.39 At first Henry thought he could simply refine the metal, separate the copper impurities from the silver, and make good delivery on Comex, but he learned that U.S. refineries were on strike with no resolution in sight. Henry’s arbitrage boat had sprung a leak.

  But he persisted, just like after being rejected by the University of Michigan, and solved both his refinery and money problems in a single master stroke. Henry recalled reading Silver: How and Where to Buy and Hold It by currency consultant Franz Pick, who had predicted years earlier the disappearance of the old silver coins and now advocated investing in precious metals to hedge against inflation and dollar debasement. Pick reminded U.S. silver speculators of their thirty years in the wilderness after President Roosevelt nationalized the white metal in 1934 and warned of America’s “tendency to punish the precious metals operator for his foresight.”40 To avoid the political risk he suggested using the London forward market in silver rather than Comex futures. Forward markets and futures markets provide similar delivery mechanisms for silver, but the key for Henry was the absence of a refinery strike in London.

  Henry reopened Pick’s book and saw a sample forward contract from Mocatta & Goldsmid, a three-hundred-year-old London bullion dealer that had been broker to the Bank of England and was now a division of Hambros Bank, a major player in London’s Eurobond market.41 He stared at the telephone number at the top of the page and knew that financing would not be a problem if they accepted the arbitrage argument. Never shy, Henry called Mocatta and asked to speak with someone about the silver market and was put through to Managing Director Keith Smith:42

  JARECKI: My name is Henry Jarecki. I am a psychiatrist in New Haven, Connecticut, and I would like to talk to somebody about the silver market.

  SMITH: Go ahead.

  JARECKI: Well, I have this idea to buy silver certificates, hedge them in the forward market in London, and ship the silver to London. …

  SMITH: (after listening for about forty-five seconds) That’s very interesting Dr. Jarecki. We will support you completely.

  Henry had practiced being charming and convincing all his life but even he was stunned at the speedy decision. He also knew that his plan involved a commitment of millions, which required a personal touch.

  JARECKI: Would it be possible for us to meet?

  SMITH: Sure, I’d be happy to see you. Come on over.

  The beauty of the arrangement between Mocatta and Henry Jarecki was that each side contributed expertise to enhance the outcome. Henry collected the certificates through his New York network, transferred them to a Manhattan vault owned by Mocatta, who then sold the underlying bullion in the London forward market. Mocatta financed the entire operation and could borrow money very cheaply, so Henry became an aggressive bidder for the dwindling supply of Treasury currency. He collected silver certificates not only from retailers like Terminal Trading Company but from other arbitrageurs who found Henry’s price better than they could get. His potential competitors became suppliers and delivered so many certificates wrapped in hundred-dollar packs to Henry’s office that he decided to weigh the bundles instead of counting the individual bills. Henry’s workers used a finely tuned apothecary scale to balance a precounted hundred-dollar pack against an incoming lot but were careful to match old and dirty bills against a similar standard, following the same procedure with crisp new bills. Older bills weighed more because of accumulated dirt and sweat.

  The booming partnership between Mocatta and Jarecki, an unintended consequence of the Treasury’s decision on October 12, 1967, to redeem certificates with bars less than 99.9% fine, matched an explosion in silver prices. Bullion rose from $1.74 before the Treasury’s announcement on Thursday, October 12, to $2.10 an ounce on Friday, December 29, 1967, the last trading day of the year, a 20% increase that the press hailed as restoring the credibility lost by the white metal almost a century e
arlier in the Crime of 1873.43 The New York Times celebrated the revival with the headline: “Silver Now at Bryan’s 16 to 1 Ratio,” adding for the arithmetically challenged “that the free market price of silver … was almost exactly 1/16th of the $35 an ounce price of gold for the first time in almost a century.”44 It showed a picture of William Jennings Bryan being “carried in triumph after his ‘Cross of Gold’ speech” at the 1896 Democratic convention, where he championed the restoration of silver as a monetary metal. The Times noted: “The Great Commoner must be smiling in his grave.”

  FiGURE 13. Henry Jarecki talking arbitrage.

  Bryan’s victory was, in fact, bittersweet. He had promoted monetizing silver at $1.29 per ounce, but the white metal rose to over $2 for the first time in history precisely because it had been demonetized. American citizens could use silver to protect against inflation and a debasement of the currency because the Treasury stopped fixing the price at $1.293, its monetary value established by Alexander Hamilton. The Washington Post headline, “Price Rise Beginning to Worry Experts,” confirmed that inflation had become a serious concern.45 The Post pointed out that “consumer prices, under the stimulus of the Vietnam War, jumped 3 per cent from 1965 to 1966 … [and] threaten to rise nearly as much this year.” That may not sound big by later standards, but the Post compared it with the “period 1958 through mid-1965 [that] saw an average yearly increase of only 1.3 percent.” A review of 1967 by President Johnson’s Council of Economic Advisers admitted that “the most disturbing economic news was the continuation of the creeping inflation that began in 1965.”46 FDR’s ban on owning gold remained in force in 1967, making silver America’s preferred hard asset to hedge against the eroding value of the dollar. The New York Times attributed silver’s “string of record prices” to speculators coming “under the spell of inflation fears.”47