Monday, October 29, 2012

Review of The Gold Rush Letters of E. Allen Grosh and Hosea B. Grosh

Just finished reading The Gold Rush Letters of E. Allen Grosh and Hosea B. Grosh, which caught my eye in a bookstore.

I mentioned in my review of Petrolia that when I read books about 19th and early 20th century commerce, I like to imagine myself landing in that time and building up wealth in the rich entrepreneurial environment. A correspondent wrote in response to that review that John Studebaker

"lost all of his grub stake except 50 cents in a rigged game of chance while he was still in Iowa, during his 1853 trip to the California Gold Rush. So he had to find a job just as soon as he got to California. That's very lucky, because it was 1853 when he arrived, not 1848. So the easy gold pickings were all gone. He might have died broke if he had panned for gold."
The Grosh brothers actually did get to California in 1849, leaving from Pennsylvania and traveling through Mexico - a passage that I had never heard of and which took seven months. The overland passages were pretty dangerous (disease) and time consuming. Going around Cape Horn ($150 from New York) seems like a better bet. However, if you went over the plains, there was the notable advantage of being able to bring goods with you (livestock), which could be sold for a significant profit in California.

They traveled with a "company", a Gold Rush term which I had always assumed was a figure of speech. It turns out that these companies actually were formed and took capital from relatives and neighbors staying home, with the intention or hope of paying them back out of California mining profits. (One New York company issued shares for $300.) As you can imagine, these companies didn't amount to much once the groups of a couple dozen strangers arrived in California without leadership or shareholder supervision.

The Grosh company had difficulties with the Mexico passage. A couple members died along the way, and it looks like their "Captain" stole or mismanaged the funds, forcing them to trade their guns for the final journey by boat from "Mazatlan" to San Francisco.

Arriving in San Francisco in the fall of 1849, the brothers find an amazing set of economic circumstances which they report home about without appearing to understand the significance of them:
Carpenters were earning the highest wages, $12-16 per day. Board was $2-3 per day.
One brother in poor health and no particular skills could work for $5 per day.
Money was worth 10 percent per month (!). 
They were offered work at a newspaper for $10/day. 
The gross margin on groceries was 50 percent. 
They borrowed money by selling a $1200 draft (secured by their mining equipment!) for $1000!
The complete lack of infrastructure and services in boom towns leaves solid opportunities to make a fortune by being first to provide ordinary goods that are in high demand.

If these numbers can be trusted, the brothers made a mistake by trying to get into mining once they reached San Francisco. The mines were time consuming and somewhat expensive to get to, plus the brothers were undercapitalized and had no particular knowledge of geology or mining. [In one of the most painful letters in the book, the brothers write home about their idea for a perpetual motion machine.]

If you believe these numbers, a capable person in San Francisco should have been able to put away $5-10/day or call it $200 per month. That's 10 ounces of gold! Plus, the money could have been lent at exorbitant interest rates (probably for dodgy loans) or high interest rates on safer loans.

Already by 1850, building lots were being rented, not sold. It's hard to know what the cap rate on these or on real estate structures were. [Why is it so hard for people to report, and think about, yields - or give you the information needed to calculate it, income and price.] However, it sounds like money was expensive and therefore the cap rates were probably attractive.

The brothers say that building lots went for $50/mo or $600/year. At a 20% cap rate [reasonable in light of interest rates], a lot would have cost $3,000. That was only 7.5 months worth of savings if the brothers were saving $200/mo.

Owning building lots would have been especially cool. For one thing, you don't have to worry about fires and earthquakes if you own the underlying land and not structures. The income from the high real yields could have been invested in new deals - probably short term loans and then real estate or other long term investments once they had suitable lump sums of capital.

Andrew Carnegie started working in 1853 for the Pennsylvania Railroad Company as a telegraph operator at a salary of $4.00 per week. He saved and invested (in some sweetheart deals) until the point where income from investments made working irrelevant.

But hardly anyone wanted to do these types of businesses! Everyone wanted to do mining - alone in the mountains spinning the roulette wheel where they had no edge.

On the brothers' first attempt to reach the mines, they lose all their supplies somehow in the Sacramento River. The collection of letters is depressing because they never give up on mining, but they are always undercapitalized for their undertakings. I would guess that many of their failures came, besides bad luck, from having to cut corners to deal with undercapitalization.

It's essential to pick projects that are the right size for your bankroll (not too big but not too small, either), just like it's essential to have the right bankroll in poker (~100 big bets).

One brother hits his foot with a pickax in 1857 and dies shortly thereafter, having attempted to heal the wound with a poultice of cow dung as recommended by a doctor. [John Snow's cholera outbreak was in 1854, but even in the 1860s the medical community dismissed the germ theory of disease.] The other brother runs out of money because of this accident and attempts to cross the mountains in the winter, where he freezes to death.

The letters were preserved because the brothers found traces of silver before they died, which may have been the Comstock, and the family attempted to sue for a share.

I'd give this only a 3/5 - while fascinating, the brothers were not thoughtful enough to record many worthwhile observations.


Nate Tobik said...

This is a very fascinating post. I love reading things like this. What's most interesting is that the brothers kept chasing the mining dream yet riches were right in front of their eyes.

I think it's a good lesson on keeping an open mind and not being focused on one particular thing. There's a lot to be said about a flexible approach.

Just thinking about the gold boom has me thinking about the dot-com boom in the 90s. Everyone thought the money was going to be in these startups, yet companies like Sun, Oracle, Intel, the ones making the servers were printing the cash.

It's also interesting how this jump condition can give a company staying power. So just moving to California and working as a laborer, and buying land would have created an empire due to the rich economic environment. Trying to do the same thing in NYC at the time would have been much harder.

Allan Folz said...

"while fascinating, the brothers were not thoughtful enough to record many worthwhile observations."

It sounds like if they were more thoughtful, they a) would have been carpenters with nothing noteworthy to write home about and b) not died, thus not making their papers interesting enough to publish. :-)

CP said...

The lesson is "make the wagons."

This is an exercise in selection bias. What we usually hear about are the fortunes created from the gold rush or website startups, but not the failures, nor do we hear much about the people who became comfortable millionaires pursuing a low variance strategy.

Speaking of selection bias, the type of people who left PA to come to California may have had particular difficulty settling down to concentrate on one thing.

And many of them went back to the east coast, either defeated or with their winnings. Apparently they couldn't see how valuable San Francisco was going to become.

I'd guess those downtown building lots are worth 1000x what they were then, which is a nominal rate of return of 5% annual on the original purchase price for 163 years. (But remember you need to add the rents, which were substantial!)

Thanks for the good comments. Do you guys have any afterthoughts? I need to read a more comprehensive survey of the Gold Rush than just this narrow but deep view.

CP said...

Mokelumne Hill was one of the richest gold mining towns in California. Founded in 1848 by a group of Oregonians, the placers were so rich that the miners risked starvation rather than head to Stockton to replenish their supplies (one finally did and made it rich by becoming a merchant).,_California

Alpha Vulture said...

Quote: "It's essential to pick projects that are the right size for your bankroll (not too big but not too small, either), just like it's essential to have the right bankroll in poker (~100 big bets)."

Sounds like you played poker 20 years ago ;). Besides the fact that no-one plays limit anymore I think people recommend something between 300BB and 500BB these days for limit or even more (because win-rates are dropping, and a 100BB bankroll never had a low risk of ruin to begin with).

CP said...

Ha - you know what I mean. (~100 order of magnitude.)

CP said...

But do you really think you need $1000 to comfortably sit down at a 1/2 table?

CP said...

Also - real yields were so much higher then. What happened?

Allan Folz said...

Real yields have been falling for centuries. There's a fair amount of recent academic literature on the subject. IIRC, it's referred to future-time value, or something jargony like that. It keeps going up, meaning the future is getting more valuable to people. People keep thinking they'll live longer, stay healthier, and have an impartial governance to insure their interests are treated fairly.

CP said...

You mean time preference. That's one theory; another would be diminishing potential returns on an increasing amount of capital, driving the real yield down.