Rise in Margin Debt Spurs Concerns

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House of cards in the making. Unless of course the stock market can go up forever after all Greedspin wouldn't want to have that in his resume. Imagine the pressure he's under to maintain the orbital stock markets so investors don't have to face a margin call.


Margin Debt

-- Guy Daley (guydaley@bwn.net), January 28, 2000


I see that link doesn't go directly to the story so here it is:

JANUARY 27, 23:54 EST

Rise in Margin Debt Spurs Concerns

By DUNSTAN PRIAL AP Business Writer

NEW YORK (AP)  Unprecedented levels of margin debt, the amount of money borrowed by individual investors to purchase stocks, has some analysts concerned with potential fallout in the event of a market downturn.

``It's a serious subject and it's creating concern because it's really a measure of investor confidence,'' said Alan Skrainka, chief market strategist at Edward Jones, a St. Louis brokerage firm.

``When you see masses of people doing it at once, it says the crowd thinks there's very little chance that stocks are going to go down. But we know from history that stock markets aren't a one-way street,'' he said Thursday.

Even Federal Reserve Chairman Alan Greenspan is expressing concern about the level of margin debt, saying Wednesday during testimony before the Senate that the central bank is studying the matter.

Americans had borrowed $228.5 billion to buy stock as of Dec. 31, 1999, up from $141 billion a year earlier  a 62 percent jump, according to Ned Davis Research, a Venice, Fla., market data firm. In 1990, the figure stood at around $35 billion.

Borrowing accelerated rapidly in the last months of 1999, when the technology-heavy Nasdaq Stock Market was surging upward at an unprecedented rate, said Sam Burns, a research analyst at Ned Davis.

Concerns have surfaced over the buying on margin because a significant market downturn could wipe out hundreds of thousands of debt-ridden investors and exacerbate a widespread selling panic.

Here's how the scenario could unfold, Burns said:

Investors borrow money to buy stock in the hope that the stock will increase in value.

The stock purchased on margin is used as collateral against the value of the loan.

If the stock goes up, everyone's happy because the investor can use the profits to pay back the borrowed money plus interest charged by the lender  usually the investor's broker.

But if the stock price falls, thus lowering the value of the lender's collateral, the lender can make what's known as a margin call, which requires the borrower to put up more cash to ensure that the loan is repaid in full.

Margin calls are usually covered by selling the stock purchased on margin, and that's where things get sticky, according to Burns.

Should U.S. stock markets stumble at some point, hundreds of thousands of margin investors would likely sell stock into an already falling market to pay back their margin loans.

Those margin-related sales would only contribute to a selling panic, Burns explained.

Many historians blame the 1929 stock market crash on widespread margin buying among investors who were then forced to sell stock to pay back their loans when the market tanked.

The Federal Reserve Board, which regulates margin borrowing, currently requires investors to have at least $2,000 in a trading account to buy on margin. In addition, investors are limited to purchasing $2 of stock for every $1 in their account.

On Wednesday, Greenspan said the Federal Reserve was reluctant to exercise its authority to tighten limits on such borrowing, saying that studies have suggested that a rising level of stock prices is unrelated to liberal margin requirements.

The New York Stock Exchange and the National Association of Securities Dealers, which oversees the Nasdaq stock market, are seeking changes that would increase to $25,000 the minimum amount some active traders need to keep in their accounts.

The move is designed to ensure that investors who want to borrow money to buy stocks have plenty of collateral to pay back their debts.

The Securities and Exchange Commissions is also discussing the issue with the Fed, the NYSE and the NASD, said spokesman Chris Ullman, ``to get their perspectives on what is the actual margin situation.''

But not everyone supports the changes.

Jeff Tappan, the co-founder of MTrader.com, an educational online site for active traders, said margin borrowing has traditionally allowed small investors an opportunity to take a larger stake in the markets.

``It's a very valuable tool because it provides leverage,'' Tappan said. ``Without it, you're playing against a stacked deck.''

Small investor advocates frequently complain that the markets are biased in favor of large, institutional investors such as pension and mutual funds.

Yet Tappan acknowledged that certain investors, such as day traders, accept tremendous risks when they borrow money to speculate on the markets. Day traders buy and sell thousands of shares, betting on the movement of the stock to make money.

The practice of borrowing money to day trade came under scrutiny last July when debt-ridden trader Mark Barton killed nine people at two Atlanta brokerage firms.

-- Guy Daley (guydaley@bwn.net), January 28, 2000.

Weren't margin requirements eased relatively recently?

-- I'm Here, I'm There (I'm Everywhere@so.beware), January 28, 2000.

The $230 BILLION figure does NOT include 'margin' borrowing from unregulated sources such as home equity loans, credit cards, signiture loans, etc which also has been used to buy stocks. In fact one can see where a person would scam up a significant amount of money from these unregulated sources, then go to the broker to get a 3 or 5 to 1 margin account (ie - debt upon debt with leverage added).

This is NOT GOOD folks, not good at all.

Considering that the average household uses 95% of its desposable income for debt service, considering that there has been a net negative savings rate over the past year and that 50% of US households own stocks now which is total is 'worth' more than the combined real estate owned by same...you paint the picture.

This is indeed a bad, bad, bad situation. Best to be out of equities and bonds, debt free and cash heavy in this environment. Ya gotta be light on yer feet to escape the falling debris when this things caves in...

-- ..- (dit@dot.dash), January 28, 2000.

When Dr. Greedspin made his pronouncement about "irrational exuberance" a few years ago, Bob Brinker, the noted investment talkshow host, called on him to raise margin requirements. Bob was right then, and he is even more right now. The stock market bubble is due mostly to excess liquidity in the economy. TPTB may lie about inflation, but it is here and pushing up prices both of products and stocks.

-- Mr. Adequate (mr@adequate.com), January 28, 2000.

Never mind. I found what I was thinking about...


It sounds like the Big Brains of the NYSE couldn't for the life of them see that this is the sort of thing that would probably happen.

-- I'm Here, I'm There (I'm Everywhere@so.beware), January 28, 2000.

This debt RE stock market along with all debt both in the private secter and the Govt. (which we all are paying into)is the effect of putting your money in a garbage can and taking it to the curb.GET OUT OF DEBT IF YOU CAN.Those in debt are going to be plundered,that is their benefit of their lifes work is and will be taken away from you.DEBT,both Govt. and private forces the need for 2 incomes in a household,careers not withstanding.Debt enslaves and robs you DYGI.

-- J (jax@borg.com), January 28, 2000.

Having cleaned the monitor off, and gone and read the accurate facts, I apologize for what I wrote and deleted before submitted. I was unaware that the 4:1 ratio for margin was an intra-day ratio, which changes to 2:1 at the end of the day.


-- Chuck, a night driver (rienzoo@en.com), January 28, 2000.

From The Street.com: The Credit, Where Credit Is Due

By James K. Galbraith (Special to TheStreet.com)

1/27/00 7:12 PM ET


...And the fact that American capitalism runs on credit is also its vulnerable point. So long as house prices and stock prices are rising, household balance sheets look great. But when they stop rising while debt continues to build, then credit becomes a burden. And if those prices fall, the great American debt machine could be in trouble.

Which raises a question. Why are Mr. Greenspan and his colleagues hell-bent on higher interest rates? Higher interest rates will squeeze middle-income families out of the housing market. They make every sort of durable-goods purchase more expensive. And they don't just depress the stock market, they skew the distribution of stock prices. Just look at the opposed movement of the Nasdaq (up) and the blue-chips (down) in the past six months. A higher interest rate means a higher required rate of return, and that causes speculators to concentrate their activities. Rising interest rates don't pop a bubble, they feed it. At least for a time.

Greenspan was asked by Democratic Sen. Charles Schumer whether he was concerned about margin lending, which jumped sharply in the final months of last year (in conformity with the theory just stated, this occurred as interest rates were being pushed up). Yes, it turns out, the chairman is concerned. But since raising margin requirements is not a "perfect" solution, the issue remains under study. But in the meantime higher interest rates -- a far less perfect solution -- will soon be decided once again...

"When all you have is a hammer, everything looks like a nail."

-- DeeEmBee (macbeth1@pacbell.net), January 28, 2000.


about that.

-- DeeEmBee (macbeth1@pacbell.net), January 28, 2000.

""Having cleaned the monitor off, and gone and read the accurate facts, I apologize for what I wrote and deleted before submitted. I was unaware that the 4:1 ratio for margin was an intra-day ratio, which changes to 2:1 at the end of the day."" Chuck, a night driver (rienzoo@en.com), January 28, 2000.

Chuck you were not nearly as wrong as you think. INITIAL PURCHASE requires 2-1, usually due in by the time the transaction clears. Usually around 3 days after order placed. **However** you might want to go look up the rules on "maintenance margin". It drops to 25% to 35%, depending on broker. If you want a real experience, go to the SEC filings for e-trade or one of the other on line brokers and look for the figures that will show you the customer asset to margin ratios. It will be most surpising!

-- Jackson Brown (Jackson_Brown@deja.com), January 28, 2000.

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