Investors are piling into stocks with borrowed money, says John Mauldin on Investorsinsight.com.
There has been a surge in margin debt on the New York Stock Exchange: investors pledge securities to obtain loans from their brokerage firm, and buy more investments with the money.
In September, margin debt hit a monthly record of $400bn against their brokerage accounts – a monthly record. Margin debt has exceeded its 2000 high and is close to its 2007 record. Both highs coincided with major market peaks.
Margin debt reflects optimism, says James Saft on Reuters.com. If you borrow against your securities you must be confident, “because you risk being forced to sell them, often at the worst possible time”, to meet a margin call.
You might have to put up more cash or securities to cover your broker’s possible losses as the market declines and the value of your holdings dwindles. Such forced selling across the market worsens downswings.
But, says the Philosophical Economics blog, margin debt is just a symptom of a high-flying stock market. A percentage of investors will always borrow against their portfolios. “We should expect the margin debt [they] take on to vary with the size of the portfolios they are borrowing against.”
With markets at all-time highs, these portfolios will be at a record size, so it’s reasonable for margin debt to hit a peak too. Rising margin debt, concludes Steven Russolillo on WSJ.com, “isn’t something to ignore”. But it’s not the main reason to fret that this rally will reverse.