Thursday, July 12, 2007

Margin Debt

Today, one simple chart that mostly speaks for itself. Click to enlarge.


Two comments:
  1. It is apparent that the market's move up in the last 6-8 months has come on the heels of a vertical rise in margin.
  2. When margin increases vertically, as right now, the market becomes toppish and vulnerable to forced liquidations (margin selling).
Common sense? Of course...

P.S. Below is an updated version of the chart, current to May 2007 (latest data available from NYSE). In just one month margin debt jumped by $35 billion, or 11%. Vertical, indeed. I have also added an exponential trendline, for comparison.

Also, notice this interesting coincidence:
  • In the previous period of near vertical margin growth (Oct. 1998- March 2000 = 17 mos.) margin balances grew by 113%, or 80% annualized.
  • In this current run (Aug. 2006 - May 2007 = 9 mos.) margin balances grew by 56%, or 75% annualized. .. and we don't have the June data yet.
We all know what followed March 2000 and I think we are now experiencing the same sort of speculative frenzy, albeit with a different cast of characters.

P.P.S. The nature of the NYSE margin data is such that it portrays mostly retail and small money manager borrowing. Hedge funds and other large sophisticated speculators usually borrow from other sources (e.g. they use bank credit lines and trading limits).

Therefore, I must conclude from the above chart that the retail speculator is jumping back into action in a serious way. Just in time to take advantage of the serious underpricing in equities, eh?

11 comments:

  1. The scariest part of this chart is that we don't know how much of the cash brought into margin accounts is from yen carry. The Fed regulates margin (Reg T) but not yen carry.

    If I borrow a million dollars in yen, convert to dollars, and buy stocks on margin, I buy $2 million of stocks with nothing down and minimal interest cost. But if stocks start to tank and the yen firms, I'm screwed.

    Every day, I see greater correlation between U.S. equities and yen carry. When yen strengthens, stocks fold.

    ReplyDelete
  2. Yes, but someone must lend you the $1 million in yen in the first place, which means you must produce collateral.

    The benefit of the yen carry is the ultra low financing cost, i.e. around 1-2% instead of 6% in dollars. If the yen weakens vs. the dollar you end up with a financing gain, too, instead of a cost.

    I also agree on the correlation between JPY and stocks. It is very tight - on a global scale.

    A "free" lunch until...when?

    ReplyDelete
  3. Parabolic moves usually leave a mark. Nice graphs!

    ReplyDelete
  4. My question is...we all know about the dangers of short squeezes. But there is no asset class in the world right now in which the short interest is greater than yen.

    So, what is the possibility that a short squeeze could happen in yen?

    If the yen started to firm quickly and lots of shorts started to cover, could they? I'm not talking mainly about Japanese housewives here. I'm talking about hedge funds.

    ReplyDelete
  5. Hellasiou, Great Chart and post!

    ReplyDelete
  6. Re: yen squeeze

    This is the mother of all questions... There is no question that the yen is now very closely correlated to global financial market performance. It is the funding currency of choice for most aggressive speculators - and even for some retail mortgages in parts of Europe.

    It looks to me like a chicken and egg situation: which will come first? A yen rally that will cause markets to drop, or a market drop that will cause everyone to rush to repay their yen loans?

    And vice versa, of course.

    ReplyDelete
  7. Margin 353 Billion in May

    http://online.wsj.com/article/SB118420803042864362.html?mod=home_whats_news_us

    ReplyDelete
  8. You don't understand. This time it's different. The new praradigm! Buy now or be priced out forever!

    ReplyDelete
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