Margin Debt Signalling a Top?

As we have noted many times, bull and bear markets are defined by investor psychology. There is no better indicator of investor sentiment than margin debt. When people are willing to borrow to buy stocks, they have to be bullish.

The New York Stock Exchange publishes end-of-month data for margin debt back to 1959. Here’s what the historical data tells us. Margin debt soared in late 1999 and peaked in March 2000, the same month that the S&P 500 hit its then all-time daily high, although the highest monthly close was five months later in August. A similar surge in margin debt began in 2006, peaking in July 2007, three months before the market hit its peak.

This is logical: When investors start to wind down their leverage, the market comes under pressure. At the end of a bull market, everybody is already in. Now you get the speculative excess, the weak buyer on margin. When the marginal buyer starts to leave the market, there aren’t enough buyers to keep things elevated.

Conversely, margin debt hit a trough in February 2009, a month before the March market bottom. It then began another major cycle of growth.

The Latest Data

NYSE margin debt data is a few weeks old when it is published. The latest debt level (for January) is down 2.9% month-over-month and 11.8% off its real (inflation- adjusted) record high set in April 2015.

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The above chart shows the percentage growth of the ‘real’ S&Ps and the ‘real’ NYSE margin debt from the same 1995 starting date. Real simply means it is inflation- adjusted. The yellow tags show the peaks. Margin debt grew at a similar rate to the market from 1995 to late summer of 2000 before soaring into the stratosphere. The two then fell together in early 2001. After the tech crash, margin debt gradually returned to its usual rate of growth until September of 2006 when it went ballistic again, finally peaking in the summer of 2007, about three months before the market.

After the market low of 2009, margin debt again went on a tear until the contraction in late spring of 2010. The summer doldrums promptly ended when Chairman Bernanke hinted at more quantitative easing in his August, 2010 Jackson Hole speech. This immediately brought the margin buyer back into the market and the appetite for margin accelerated to a similar pace as 2007 along with ongoing Fed easing until April of last year. With QE now history, margin debt in declining and there have been no new highs in the S&Ps. Is this 2000 and 2008 all over again? In my opinion, the answer is yes.