“Investors Notch an Ominous Record”
by Brian Maher
“The market stumbles these days and a rainbow forms in the skies over Wall Street. Just another chance to buy the dips. The Dow’s up about 200 this week after last Friday’s health care adventure. And why not? For eight years dip buyers have been rewarded royally for their efforts. Will this time be different?
It was John Templeton - Sir John Templeton - who said bull markets are born on pessimism, grow on skepticism, mature on optimism... and die on euphoria. Eight years in... has this bull market finally passed the optimism phase, and entered euphoria?
We consider one possible sign today. Think of the crash of 1929 and what springs to mind? Shoeblacks, paper slingers, taxi hacks, all giving the hottest stock tips? Yes, maybe that. But also something else… margin buying. Investors borrowing money to buy stocks. Buy now, pay later. (And pay they would.) Margin buying became so common that by the time the crash came along, some 90% of the purchase price of a stock was made with borrowed money. A fellow with $1,000 could try his luck with up to $10,000 worth of stock.
Then the crash. Margin buyers not only lost their button-downs with their Windsor-knot ties… they were in hock for every last cent they borrowed. In a word, ruined. Most stayed ruined.
We mention this only because The Wall Street Journal brought us up short yesterday with a stray item of news, a passing item almost lost among the indrift. It said margin debt hit a record high last month. Investors borrowed $528.2 billion against their brokerage accounts, according to the latest the New York Stock Exchange data, out Wednesday. Margin debt was $513.3 billion in January.
The Journal further informs us that “the previous record high for margin debt was $505 billion in the spring of 2015” - just ahead of the August correction that sent stocks careening more than 10%. “A steep rise can indicate that investors are losing sight of market risks and betting that stocks can only go up,” says the Journal in words too obvious for print. “Margin debt has a history of peaking right before financial collapses like the ones in 2000 and 2008,” warns the Journal.
Then this question: Are today’s margin buyers simply tugging on Fate’s cape, courting Her wrath? John Hussman of the eponymous Hussman Funds argues that current stock valuations now rival their 2000 peak. He also says they’re “more than double the historical norm, and about 160% above pre-bubble norms.”
What kind of losses could return valuations to their historic norms? “Put simply,” warns Mr. Hussman, “the U.S. equity market could lose $17 trillion in value - over 50% of its market capitalization - even without taking reliable valuation measures below their historical norms.”
For emphasis: “We estimate that roughly half of U.S. equity market capitalization - $17 trillion in paper wealth - will simply vanish.” Come the day, we only hope the windows are nailed shut. More than a few unexpected visitors “dropped in” on Wall Street in October ’29.
But not everyone is concerned about today’s record margin-buying. One Jeff Mortimer, for example, directs investment strategy at BNY Mellon Wealth Management. Quoth he: “This isn’t a signal to me that markets are reaching an exuberant level like they did in the 1920s or 1990s, when speculation was rampant. What our clients are doing is borrowing against the portfolios because interest rates are so low. They’re not leveraging up because they see the market exploding to the upside; they’re using leverage because they can pay it off at any time.”
This time is different. Of course. It always is. But who knows… maybe this Mortimer fellow is right. Maybe this time is different. And maybe this time Lady Fortune scatters Her blessings their way. But this lady sure is fickle.”