by David Moon
Beginning in the early 1970’s, brothers Nelson and Herbert Hunt set out to corner the world’s silver market, eventually owning or controlling 200 million ounces of silver, or more than half of the world supply at the time. Silver prices rose from $1.95 an ounce in 1973 to a peak of $54 in 1980, creating billions in paper profit for the brothers—until the U.S. government set out to dismantle the brothers’ market manipulation.
The silver market collapsed, exposing the brothers, lenders and other creditors to billions in potential losses.
As the massive scale of the Hunt acquisitions eventually began to surface, nervous regulators changed rules governing futures contracts, limiting an investor to $3 million worth of silver contracts and requiring any contracts above that amount be liquidated within months. Regulators also instituted a freeze on new long contracts, without putting any limits on new short contracts.
Within 6 weeks of the regulatory changes, silver had dropped 50 percent. The Dow Jones Industrial Average dropped 20 percent. The prime lending rate jumped to 22 percent. Stocks and interest rates around the world reacted similarly.
If there was a “too big to fail” institution in 1980, it was the Hunt brothers’ commodities operation. Federal Reserve Chairman Paul Volcker gave approval for a bailout plan that would have provided $1.1 billion in loans in order to meet margin calls and stave off a forced liquidation, until a long-term bailout could be arranged.
For reasons that aren’t completely clear, the Volcker plan was never implemented. Nelson and Herbert Hunt were charged with securities manipulation, fined and ultimately forced into bankruptcy. Their silver positions were liquidated, albeit slowly.
Yet the commodities market survived, as did the stock and bond markets.
The Hunts’ bankers and other creditors, however, lost billions—which is exactly how capitalism is supposed to work. And it is exactly how capitalism didn’t work in the recession of 2008-09.
In 2009, regulators made apparently arbitrary decisions about which businesses would fail and which would survive. Lehman and Washington Mutual were allowed to fail. The financial system seemed to reasonably handle those bankruptcies.
Regulators decided to save Merrill Lynch and Citigroup. If the federal government hadn’t forced Bank of America to acquire Merrill Lynch, who would have lost money? Merrill’s shareholders, bondholders and other creditors, which is exactly how it is supposed to work.
“Too big to fail” legislation is predicated on the assumption that, under some circumstances, large company shareholders and bondholders can shift their investment risk to the taxpayers. With that knowledge, large banks have an incentive to assume excessive risk, knowing that failure will simply result in bailouts.
The U.S. doesn’t need Dodd-Frank, nor does it need “too big to fail” legislation. What we need is to allow the next generation of Hunt brothers to suffer the consequences of the mess they create.
David Moon is president of Moon Capital Management, a Knoxville-based investment management firm. This article originally appeared in the News Sentinel (Knoxville, TN).