Stock Market Debt: Beware the Bear!

A picture of stock market debt is worth 1000 words—I’ll be well below that.

NYSE investor credit and the market

The markets are hitting new highs. Is it because the economy is performing so well, or is there another explanation?

Check out the amount of borrowed money (the red measurement) that has accompanied the recent ascent to new highs (the blue line).

[See also, “Does Stock Market Euphoria Mean A Better Economy? Americans Aren’t Buying It.”]

All of the Fed’s “funny money” has been doing its primary job: Providing the big, Wall Street banks with essentially free cash to speculate (bet wildly) in the markets, creating euphoria, and sucking in the little guy, so they can sell out and leave Main Street holding the bag on the next collapse.

Do look at what happened to valuations the last time borrowed money was so high. We’re deeper into margin (borrowing) this time, so what do you think will happen when folks start heading for the exit?

Economic analyst, Jesse Columbo, writes in Forbes with the above graph:

As we head into the fall – a historically weak season for stocks – it is a good time to reiterate the need for caution as stocks trade near all-time highs. Some of history’s worst stock market crashes, including the crash of 1929, 1987, and 2008, occurred in September and October after rallying in the spring or summer. I must emphasize that I am not actually predicting a crash this fall (thought it certainly could happen), but rather discussing the risks and potential sell-off catalysts to be aware of.

One of the most worrisome developments is the record amount of margin debt that traders are currently using to bet on rising stock prices (see chart below). Traders have borrowed approximately $180 billion worth of margin, which far surpasses the amount of margin debt used during the Dot-com and 2007 stock bubbles. When a genuine bearish catalyst finally presents itself, bullish traders will be forced to unwind these leveraged bets in a panic, causing a powerful bear market.

Note: I am not claiming to know the future (and certainly not the timing of any event!). I am simply saying that things look really risky to me.

Buyer beware.