Tuesday, October 30, 2012

More Thoughts About the Gold Rush Letters

Good conversation going in the comments section of my Review of The Gold Rush Letters of E. Allen Grosh and Hosea B. Grosh

The lesson seems to be "make the wagons," although thinking about success means thinking about selection bias. What we usually hear about are the fortunes created from the gold rush or from 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 Pennsylvania 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. [It grew from ~1k inhabitants in 1848 to ~25k in 1850 to over 50k in 1860.]

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! It would not have been long before the ground rent would have been many multiples of the original purchase price of the lot.

Anyway, it certainly seems like it was easier to get rich back then, when wages and real yields on capital were both high. No income tax or government to regulate you - and think about all the dirt the miners dumped into the rivers!

Mokelumne Hill was one of the richest gold mining towns in California, where the placers were so rich that the miners went hungry rather than return to Stockton for supplies. One miner made a bundle by bringing a wagon load of food back to sell to the other miners.

Another good arbitrage would have been the abandoned ships in the bay. So many crews deserted upon arriving in San Francisco that they piled up at anchor (as many as 300 in late 1849) and began to be torn apart for building materials. Any organized group of people could have obtained one of these and planned a round trip to New York, where they would have picked up passengers and cargo. The ship wouldn't really lose value over the voyage - just the opportunity costs of capital and time. Passengers paid $150 and freight rates were $60/ton over the Cape Horn route.

Reading about the ships makes me of our shipbuilder, Conrad. That paper above says that the "merchant marine had been cleared of much of its old and worn tonnage; few vessels ever came back from California. Accordingly, there existed a shortage of merchant ships-and at a time when the demands of the new California market had sent freight rates skyrocketing. This combination of circumstances had much to do with the quick appearance and the spectacular progress of the clippers during the next decade...".

That means there were a bunch of clever ways that people on the east coast could have made money off of the gold rush. Suppose that you had anticipated the increased demand coupled with crews deserting in California. You could have ordered new ships for delivery in 1850 and 1851, taking up shipyard building capacity. If there was a market, you could have reserved future space on ships, betting on higher freight rates.

I also found a source saying that San Francisco municipal debt paid 3 percent a month! So it wasn't just dodgy loans.

This paper talks about the "average value of daily product for a number of groups, including all men, miners, native-born miners, and foreign-born miners. Although the range was relatively large, the median value was $4 and the twenty-fifth and seventy-fifth percentiles were $3 and $5 per day. Migration to California increased earnings in absolute terms for all or nearly all occupations. For miners, however, migrating may well have lowered earnings in relative terms."More evidence that you wanted to build the wagon.

Similar conclusion coming from an NBER paper, "Although all surely had gold on their minds, not everyone became a miner (or remained one for long). Many migrants realized that profits could be made transporting consumer goods to the mines and set up makeshift stores under tents at mining camps. Others sought to make their fortune in commerce, real estate, banking, or other services in rapidly growing San Francisco. By 1860, there were 217 miners for every 1,000 people in the state, compared with 624 per 1,000 in 1850." Wow - if 60 percent of the state was engaged in mining, it definitely makes sense that the smart move was to do something else!

I'd never heard anyone mention the opportunities available in San Francisco before. Biographers and historians are pretty bad at covering these stages of entrepreneurs' careers. There's less source material from people's early stages. Also, the historians are more interested in politics and can't identify/don't find interesting the early struggle to succeed.

I found three more very promising books about the Gold Rush. The first one especially looks like it could answer a lot of the practical questions about optimal gold rush strategy.
Spreading the Word: A History of Information in the California Gold Rush
The Age of Gold: The California Gold Rush and the New American Dream
William Tecumseh Sherman: Gold Rush Banker


Nate Tobik said...

To your comment that it seemed easier to get rich back then.

I think it just seemed that way, consider this, there are many parts of the world just developing and experiencing booms like California was back then. In theory it should be easy to just fly over to Myanmar and start transporting food to mines and selling it for high prices, or whatever's in demand.

I think some companies are trying this, but to actually go into these emerging places requires a crazy level of risk tolerance. This is what you hit on with people leaving PA. The types of people who left were the ones who could swallow that risk, whereas most weren't ready for it. The same situation exists today. When mentioning Mongolia, or Myanmar people just think of the risks of operating in a lawless area in a haphazard manner, but that's the exact same environment that California was then.

I think because CA has developed we just superimpose our American history and American experience on those places. The truth is California in 1849 was probably similar to Mongolia today. Mineral rich, boom town, but not much structure, almost no support, and a complete free for all.

There's a blog I read capitalistexploits.at where these two guys profile frontier markets and opportunities over there. A lot of them are too out there for me, but I love reading their material.

CP said...

Spreading the Word examines the ways in which easterners who traveled West during the California gold rush of 1849–51 obtained, assessed, and used information. At the beginning of the gold rush the scarcity of information about westward travel posed serious problems for potential gold seekers in the East. Though most knew the trip was dangerous and that proper preparation could mean the difference between life and death, few had any practical knowledge of the vast deserts and mountains of the West or, for that matter, of how to mine gold.

Information was produced quickly as newspapers, publishers, and businessmen hastened to cash in on gold fever, but much of it was unreliable, contradictory, and changed frequently. Richard T. Stillson follows several gold rush companies across the country, gleaning from their letters and diaries a sense of how they obtained information and evaluated its constantly changing sources, how they attempted to learn where gold was, and what they wrote home, thus providing information to the next wave of gold seekers. As the companies gained experience, they reassessed knowledge and developed new modes of determining the credibility of new information.

CP said...

I've hear people talking about Mongolia- are you following that closely?

One big difference I think is the increased economic freedom in California versus a populated place like Mongolia.

We can get valueprax on here to talk about the difference between "lawless" (1850s CA) versus "lawless" (U.S. today or maybe Mongolia today).

Maybe I'm romanticizing the past too much, or maybe there are really good opportunities that I'm glossing over.

(And I'm actually pursuing very good opportunities of all kinds right now - my cost of capital is actually quite high.)

Ordering that Spreading the Word book - looks very very good.

CP said...

By the way, betting on low real yields and rising resource prices are bets against progress - which have historically been bad bets.

Even peak oil is pretty dubious - we might be looking at a glut combined with alternative supply sources.