Sunday, April 11, 2021

Margin credit - More complex than just saying it is rising

With the prime broker loses on levered positions, market talk has focused on overall stock margin; however, looking at some of the numbers suggests that the story is more complex than saying leverage is higher. 

We are certainly not arguing that the economy is not levered. The low interest environment is all you need to know. Cheap money will lead to greater credit usage. This is especially the case if the financial instruments being purchased are trending higher. Nevertheless, financial leverage is not the same as borrowing for long-term investment in plant and equipment where the measurement of uncertain future cash flows in an illiquid investment makes for a more difficult assessment.

The quick take:

1. Margin debt balances have increased significantly since the March 2020 crisis. Money is cheap and plentiful, and investors are taking advantage of the opportunity. 
2. The debt balances relative to the SPX market capitalization are increasing but the numbers are below the highs seen two years ago. Leverage has grown with the strong market, but the overall levels are not at extremes.
3. Free credit balances have grown from 2019 lows. There is money available to invest and it not as though all investor cash is being used to boost leverage. Margin accounts are getting the benefit of the rise in equities, so free cash levels have not seen excessive declines based on extreme speculative desires.

In the unregulated swaps markets, the world can be quite different, so any generalization on margin usage should be tempered with a fuller picture. In the regulated market, the leverage usage is more controlled.   

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