Seeking Alpha
Value, growth, bonds
Profile| Send Message|
( followers)  
Margin debt tracked by the New York Stock Exchange has hit a new record high. Traditionally, this is viewed as a sentiment indicator reflecting extreme bullishness. The interpretation is bearish and contrarian. It is a risky thing for stocks if anyone interested in buying has already done so --- and borrowed money to do it! That is the interpretation placed on the data by the Wall Street Journal. Here is the lead from their report:

A rising stock market continued to inspire investors to go into debt to buy stocks last month, sending margin-debt figures past their previous record, which was set several years ago in the waning days of the tech-stock boom.

At the Big Picture, Barry Ritholtz starts with the traditional interpretation, writing that "As of today, more people have borrowed money from their their brokers to buy stocks than ever before." Barry goes on to explore some factors that prevent a direct comparison with the old record, set in 2000. His readers also make a number of good comments.

A fundamental question is whether margin is also used for short selling. Bill Rempel (aka No Doo-Dahs!) raised the question in a thoughtful analysis of Bloomberg's report on the story. The Bloomberg author did not himself know the answer. In a second story, Bill lays out several factors to consider before using margin debt as a sentiment indicator. He raises excellent questions for anyone interested in making careful comparisons.

When we entered the hedge fund business, all of the prime brokers wanted to know how much short selling we would do and whether we would use margin. The money generated from the short sales is profitable for the brokers since the interest they earn is greater than that paid to the hedge fund.

Perhaps readers will help enlighten us on the factors making up the margin debt measure. Meanwhile, regular readers of "A Dash" know that we regard market valuation as the best long-term sentiment indicator.

Source: Margin Debt As a Sentiment Indicator