Margin

U.S. equity indices keep printing new highs. As discussed recently, buybacks and retail investors are the ones pushing prices up, with institutionals and insiders taking the other side. But there is one more data point that adds more color to the supposed strength of this market: In the chart below you can see the margin debt and its relationship with the S&P 500 index, as a representative of the market. First, margin debt, which is money borrowed by investors from their brokers to leverage a position, is reaching new highs. In essence, that means that part of those market gains are owed, and more importantly, if there is a correction, investors will either sell quickly or may be confronted with margin calls (forced liquidations). Second, margin debt is one of the best indicators, as shown in the chart below, to see when a correction is coming. In the chart, the S&P 500 is inverted to show more clearly the relationship between margin and the index. Add to that the fact that overnight interest rates, the basis used to calculate margin interest rates (we need to add a spread), are relatively high, which creates a significant hurdle for a leveraged position to be profitable. To complete the picture, remember that the market is very concentrated in a few names, valuations are very high, in some instances, at all time highs, and the big poools of money are selling. Paraphrasing the old saying, this market has been weighed, has been measured, and has been found wanting.

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