A.I.M. Users Bulletin Board

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Hi Gang, I get a lot of c#$% e-mails but every once in a while one comes in with information that is worth thinking about. Here is one of those.

ECONOMY & MARKETS | May 05, 2017
Could This be the Straw that Breaks the Market’s Back?
By John Del Vecchio, Editor, Forensic Investor

Dear Allen,

The thing about financial markets is that the companies that dominate change… the leaders of those companies and the personalities that capture the market’s attention change… regulations and regulators change. But human nature never changes.

And we have short memories.

Today, investors are stepping into the same traps that burned them in prior market cycles – specifically, the margin-debt trap. As calculated by the New York Stock Exchange, margin debt is at an all-time high.

All. Time. High.

At the end of March, margin debt topped out at nearly $537 billion. Even in today’s world, that’s still a lot of money! But that’s not the whole story. The actual credit balances are negative $231 billion. That compares to negative $152 billion in March 2016.

But how does this compare to the last two major butt-kickings investors got this century, when stock markets were overvalued and investors got too bullish and loaded up to their eyeballs in margin debt?

It’s not even close.

In the 2000 Tech Bubble, credit balances were negative $179 billion ($52 billion less than current levels) by August of that year. Those negative balances expanded right up until the point the market tipped over. The trend in negative credit balances called the top in the market.
We all know how that ended. By June 2007, negative balances topped at $79 billion. But by October of 2007 they had turned flat. A year later, as Lehman Brothers was imploding, they were flat again. Today, credit balances are consistently 10-times higher from month to month than they were leading up to the Financial Crisis!

TEN TIMES!

We are in the Mother of All Bubbles. And under these circumstances, it only takes a small hiccup to empty the tea cup and wipe out investors’ accounts. Margin calls exacerbate the downside. Always have. Always will. Adding fuel to the tinder is the Securities and Exchange Commission’s recent, bizarre move. The SEC has allowed the operation of funds that offer 400% the daily return of the market.

There are a lot of flaws in levered exchange traded funds (such as how daily rebalancing impacts the returns), but the fact that there’s demand for a four-times levered product shows that the lunatics are now running the asylum.

“Happy Days,” the wonderful show on TV during my formative years, went downhill after the episode where Fonzie jumped a shark. With an all-time high in negative credit balances and investors clamoring for even more leverage, the market has officially jumped the shark.

It’s not going to end in happy days unless you know how to play this market.

Best,

Allen