Chart of the Week: The Calm Before the Margin Call

Recently it looks like traders can’t miss. The S&P retains setting new highs whereas volatility has been comparatively low.

However one thing nonetheless doesn’t really feel proper. So I assumed I’d check out what’s really occurring beneath the floor.

And one chart particularly caught my eye as a result of it tells me that this rally is working on borrowed confidence.

As you may see, U.S. margin debt simply climbed to a brand new all-time excessive.

What does it imply for you and your portfolio?

When folks borrow extra to purchase shares, it normally means they’re feeling assured. Typically that confidence is justified. Different instances, it’s a warning signal.

On this case, it could be each.

Borrowed Cash Is Powering the Market

Again in July, I advised my Excessive Fortunes readers that: “We’re in a low-volatility, grind-higher part led by retail momentum.”

That hasn’t modified.

On the floor at this time, all the pieces seems okay. Shares hold climbing and company earnings appear stable.

In different phrases, the trail of least resistance proper now’s to take a “maintain regular” strategy.

However beneath the floor, rising margin debt is like including accelerant to a fireplace.

When traders purchase on margin, they’re amplifying their exposures. Meaning wins might be larger, however so can losses.

In a quiet, regular rally that’s superb. However the second volatility ticks up or market sentiment sours, that leverage turns into an issue quick. If we get hit with shock inflation numbers, or if tariff rhetoric flares up once more, or if the Fed turns extra cautious, all that leverage might make a small pullback really feel quite a bit larger.

In different phrases, margin debt gained’t begin the fireplace. However it can make it worse when it occurs.

So what must you be careful for?

If margin charges start to rise (that means lenders see extra danger) or if there’s an uptick in pressured sell-outs (margin calls), that’s the second the “grind” may shift into one thing quite a bit much less pleasant.

And if the market’s upside turns into concentrated in fewer names whereas margin debt climbs, that’s one other crimson flag.

Right here’s My Take

I’m not sounding an alarm bell simply but. This chart is a warning signal, not a crimson mild.

In actual fact, I consider this rally can proceed, and it’s seemingly that we’re nonetheless in that “grind increased” zone.

However this chart tells us that our margin of security has thinned. The upside stays, however getting caught when the tide turns is way extra harmful than it was a couple of months in the past.

It’s not a purpose to desert the market, however relatively a reminder that the following leg of upside would require stronger fundamentals and broader participation…

Not simply leverage and momentum.

Regards,

Ian King
Chief Strategist, Banyan Hill Publishing

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