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While the SPDR Gold Trust exchange traded fund seems to have staged a slow-motion breakout after a flat March, it is silver that continues to lead the way in the precious metals complex.

The iShares Silver Trust has posted a very impressive year-to-date return of 41 per cent, dwarfing the 5.2 per cent return in GLD this year. And the performance chasm is even greater over the past year, with SLV more than doubling (+146 per cent) compared with a 31 per cent gain for GLD.

Paul Montgomery of Montgomery Capital Management had some very interesting comments recently on gold and silver in his renowned Universal Economics newsletter:

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"Silver ... has closed up ten out of 11 weeks. Streaks like this are important in the futures arena, where there is a short for every long. With gold, one notable development is that it has closed higher 11 years in a row. To our knowledge no commodity has ever closed up 11 consecutive years.

This may mean that gold is not so much a commodity as it is a currency. Currencies can 'eventually' end towards zero or towards infinity. Currencies also 'trend' better than commodities do. Also, currencies tend to ignore [the contrarian implications of extreme sentiment more than commodities do. It is important to know whether gold is following a commodity dynamic or a currency dynamic."

Paul's concluding observation is extremely important in any attempt to determine the outlook for precious metals at this juncture. And I'd suggest it is even more important for silver than for gold, due to silver's huge price momentum and the fact that it has surpassed an all-time high of 31 years standing.

Is this action representative of an "exhaustion top" in an instrument that needed to first record an all-time high, and thus gather some more headlines before retreating? Or is this just one more milestone in a silver "mega-rally" that is ultimately going to leave the January 1980 peak in the dust?

I see a clue to an answer to Paul's question of whether precious metals are behaving as commodities (which could better support the "top" argument), or as currencies (which could suggest the potential for a lot more upside), amid the muted volatility of the current spike higher in the silver futures compared to the 1979-1980 spike.

The bottom pane of the chart below shows the 14-month historical volatility of the silver futures contract, and note the spike in this volatility-to just shy of 100 per cent-in 1980. Fast forward to the present date, and we see that prevailing silver futures volatility is about 25 per cent, or about a quarter of the peak 1980 level.

In general, commodities tend to trade in a much more volatile manner than currencies, and rallies in commodities tend to see a quickening of volatility.

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So if, in fact, the "precious metals trading as currency" theory is the proper one, then the explosive action in silver over the past year may well represent the beginning rather than the beginning of the end.

Bernie Schaeffer is chairman and CEO of Schaeffer's Investment Research

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