Monday , 11 December 2017


Correlation of Margin Debt to GDP Suggests Stock Market Has More Room to Run

Are stocks in a bubble? While leverage has returned to the stock market driving upinvesting-hold-buy-sell stock prices and aggregate demand in the process, margin debt is still shy of its all-time high as a percentage of GDP, so there is certainly some headroom for further rises. A look at the following 5 charts illustrate that contention quite clearly.

So writes Steve Keen (www.paecon.net) in heavily edited and rephrased excerpts from his original article* as posted in Issue No. 64 of the Real-world Economics Review (subscribe for free here) under the title A Bubble So Big We Can’t Even See It.

[The following article is presented by Lorimer Wilson, editor of www.FinancialArticleSummariesToday.com and www.munKNEE.com and may have been edited ([ ]), abridged (…) and/or reformatted (some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. This paragraph must be included in any article re-posting to avoid copyright infringement.]

Keen’s article contains the following charts from www.debtdeflation.com/blogs and edited comments that I want to share with you:

Ratio of Margin Debt to GDP – correlation 0.945

The ratio of margin debt on the New York Stock Exchange as a percentage of GDP…has a correlation of 0.945 as illustrated in the chart below.

It should be noted that there are elements of spurious correlation here: they were both generally rising over 1955-2013, but one can also make a causal argument that increasing levels of debt levered up the gap between asset and consumer prices. This assertion of course directly contradicts a famous proposition in academic finance—the “Modigliani-Miller theorem” that the level of debt has no impact on the level of asset prices—which is another good reason to take it seriously.

Change in Margin Debt to Change in the Dow – correlation 0.59

Both the rate of change of margin debt (relative to GDP) and the rate of acceleration of margin debt correlate strongly with change in the Dow over the past six decades.

The correlation of the change in debt with change in the Dow is stronger than the correlation of acceleration – 0.59 versus 0.4 (see below)– but both are pretty strong for correlations over more than half a century, especially since conventional wisdom asserts they should both be zero.

Margin Debt Acceleration to Change in the Dow – correlation 0.4

The correlations have also risen as the level of debt has risen – both aggregate private debt and, in the USA’s case, margin debt which is specifically used to buy shares.

Change in Margin Debt to the Dow in Recent Years – correlation 0.69

Margin Debt Acceleration to Change in the Dow – correlation 0.6

Does rising/accelerating margin debt cause the stock market to rise, or does a rising stock market entice more people into margin debt?

Obviously there will be some cumulative causation here: both statements are going to be true to some degree, but this also implies a positive feedback loop, which is part of the explanation for why stock prices are so volatile….The market – and recently the economy – has risen…because of “the leverage effect”. Leverage has returned to the stock market, driving up stock prices and aggregate demand in the process.

How far can it go?

Margin debt is still shy of its all-time high as a percentage of GDP, so there is certainly some headroom for further rises… Fragility, rather than sustainability is the message I would take from the data provided above.

[Editor’s Note: The author’s views and conclusions in the above article are unaltered and no personal comments have been included to maintain the integrity of the original post. Furthermore, the views, conclusions and any recommendations offered in this article are not to be construed as an endorsement of such by the editor.]

*http://www.paecon.net/PAEReview/issue64/Keen64.pdf (Copyright Steve Keen 2013)

Related Articles for a Balanced View:

A. Optimistic Views of the Market

1. The Stock Market: There’s NOTHING to Be Bearish About – Take a Look

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2. Pop a Pill & Relax ! There’s NO Immediate Danger Threatening Stocks

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3. Latest Action Suggests Stock Market Beginning a New Long-term Bull Market – Here’s Why

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4. Sorry Bears – The Facts Show That the U.S. Recovery Is Legit – Here’s Why

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5. Stocks Are NOT In Another Bubble – Here’s Why

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6. Research Says Stock Market Bull Should Continue Its Run Until…

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7. These 4 Indicators Say “No Stock Market Correction Coming – Yet”

While I remain cautious on stocks and the risk trade, the technical picture shows that the uptrend to be intact and the bulls should still be given the benefit of the doubt for now. At this point, any call for a correction is at best conjecture [as evidenced by the following 4 indicators]. Words: 399; Charts: 4

8. Can Photos of 35 Swimsuit Models Be Wrong? Lastest “Swimsuit Issue Indicator” Suggests An UP Year for S&P 500!

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9. Bull Market in Stocks Isn’t About to End Anytime Soon! Here’s Why

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10. QE Could Drive S&P 500 UP 25% in 2013 & UP Another 28% in 2014 – Here’s Why

Ever since the Dow broke the 14,000 mark and the S&P broke the 1,500 mark, even in the face of a shrinking GDP print, a lot of investors and commentators have been anxious. Some are proclaiming a rocket ride to the moon as bond money now rotates into stocks….[while] others are ringing the warning bell that this may be the beginning of the end, and a correction is likely coming. I find it a bit surprising, however, that no one is talking of the single largest driver for stocks in the past 4 years – massive monetary base expansion by the Fed. (This article does just that and concludes that the S&P 500 could well see a year end number of 1872 (+25%) and, realistically, another 28% increase in 2014 to 2387 which would represent a 60% increase from today’s level.) Words: 600; Charts: 3

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12. Start Investing In Equities – Your Future Self May Thank You. Here’s Why

As Winston Churchill once said: “A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty” and in that vain I challenge all readers to fight off the negativity, see long-term opportunity in global equity markets and, most importantly, remain invested. Your future self may thank you. Words: 732; Charts: 6

 

B. Pessimistic Views of the Market

1. Level of Investor Margin Suggest Its Time to Lower Stock Exposure

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Some times in history, investors feel so confident about the future of stocks, they actually use up all their available cash and then borrow money to invest in the stock market.  Now is one of those times – and it suggests that now is the time to lower one’s stock exposure. Here’s why. Read More »

2. This Metric Strongly Suggests a Major Correction in the S&P 500 Could Be Coming

History shows that when investors experience a rapid decline in the amount of available cash in their brokerage account to spend/invest quickly such “negative net worth” leads to major corrections in the stock market. Currently such is the case so can we expect another such decline or will it be different this time?

3. 30 Analyses of Why Stock Markets Are Tanking – Finally

There are many, many different takes on why the stock market has been ripe for a fall and why it has finally happened. Below are 30 of the best-of-the-best such analyses to help you come to some sort of resolution. Read More »

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Eiffel tower patterns can be very important to your portfolio construction & management because, when you experience the left side of the tower, you often experience the right side as well which often results in declines of as much as 50% from the peak. Currently it would appear that three specific assets could well be forming such patterns. Read More »

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I believe this sell-off is a good thing for the market – as the outcome will show us where fair value might be. I believe that we will see the market return to a more reasonable forward P/E of 13, sending SPY to $150.00 – or another 5 percent decline. [Let me explain further.] Read More »