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Taking Stock

Silver: Is it different this time? Add to ...

Whenever you see a raft of commentaries extolling this or that natural resource on the basis of greatly increased demand and limited supply, it's usually a good indication that a market top is near. Such ought to be the case with silver, whose price has skyrocketed more than 140 per cent in the past eight months (and 12 per cent last week alone). I say "ought to be," because once speculative fever takes hold, it can take a remarkably long time to run its course.

On Monday, silver nudged $50 (U.S.), and is bound to leave that key benchmark in the dust. Some market experts argue this is inevitable, because the old cyclical resource rules no longer fit silver, gold, oil and plenty of other commodities, as demand moves steadily upward and supplies inexorably head in the other direction.

"If you believe that commodities are indeed on their old 100-year downward trend, then their current pricing is collectively vastly improbable," famed investment adviser Jeremy Grantham, chairman of global asset manager GMO, writes in his latest quarterly newsletter. Based on the old resource paradigm, silver - and many other commodities - are plainly in what Mr. Grantham calls "hyper-bubble territory." But based on his own research, he has concluded it's "far more likely that for most commodities the trend has changed."

Mr. Grantham argues that the world is using up its resources "at an alarming rate, and this has caused a permanent shift in their value. We all need to adjust our behaviour to this new environment."

His firm's research pegs the probability of silver reverting to its old trading pattern at 1 in 9,300.

Mr. Grantham's goal is "to persuade investors with an interest in the long term to change their whole frame of reference: to recognize that we now live in a different, more constrained, world in which prices of raw materials will rise and shortages will be common."

There is no question that silver is one of the more useful of your precious metals, finding its way into everything from solar panels, hearing-aid batteries and musical instruments, to various industrial, chemical and medical applications and even clothing. But at some point it will become too expensive to put it into odour-resistant T-shirts. And anyone who argues that speculative fever is not playing a role here probably still believes that markets always know best and central bankers never make mistakes.

Mr. Grantham acknowledges that speculation in commodities has played a role in the runup of prices, but believes it accounts for only "a small part of the total pressure on prices."

His long-term view seems eminently sensible. But I still see plenty of room for a nosedive for precious metals in the weeks and months ahead, particularly if the global economy finds sounder footing and the U.S. Federal Reserve starts the long process of tightening monetary policy. That would diminish the value of gold and silver as an insurance policy against a debased currency; and they are already awfully expensive for such a purpose.

All too often, we hear new variations of the famous expression: "This time, it's different." Which is how we get bubbles in the first place.

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