Wednesday, October 22, 2008

What is "Forced Liquidation" or Deleveraging?

We're hearing a lot about forced liquidations and deleveraging lately, and their effect upon the U.S. dollar and gold, among most commodities.

What it basically means is someone borrowed money to make a trade. When the money is no longer available to borrow to keep the trades going, investors are forced to sell their investments in order to pay back those loans.

This is why even though the underlying fundamentals that would normally result in a weaker U.S. dollar and surging gold price are still there, they haven't performed in their normal manner.

A number of commodities are being hammered for this very reason; especially gold.

The reason this happens is institutional investors that need cash are "forced" to sell positions in commodities they would rather keep, driving the price down. That's the reason it's called forced liquidation or deleveraging.

Because we are in an unusual situation, it's difficult to know or project the timing of when this will all revert back to normal.

We can be sure of one thing: it will eventually even out and the U.S. dollar will fall, while the price of gold will surge. It's a matter of when, not if.

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