Vacuous Sponsorship For Equities Creates Conditions For Sharp Short-Term Plunges
Various holders of equities have simultaneous reasons to sell
Written by Tony Crescenzi , CEO BondTalk.com
As I mentioned Monday, it is easy to see why equities are so weak given the many factors that have raised the equity risk premium (busted bubble, 9/11, Enron, corporate malfeasance, geo-political factors). And there's risk of more weakness; the main holders of equities all seem to be reducing their exposure simultaneously for different reasons. Households are disenchanted because of both the the stock market's performance and because of issues related to corporate governance. Foreign investors are pulling aside because of the weaker dollar. Pension funds are allocating more money to bonds, as they become underfunded. In almost every camp there's justification for reduced equity market exposure. This raises the risk of a severe short-term decline of the magnitude rarely seen since 1987. Monday's (7/15) sharp intra-day plunge is evidence of this tendency.
While the mood is clearly very pessimistic, it has been even more pessimistic in the past. While individuals are about as bearish as they could possibly get (judging by surveys of individual-investors and by the sharp reduction in direct holdings by households of U.S. stocks--now at just 37% of the total market capitalization compared to 48% three years ago), institutions have only begun to express high degrees of bearishness in the most recent sentiment surveys. Thus, while sentiment amongst households is at an extreme, there is room for more bearishness by institutions before their sentiment is considered at an extreme.
bondtalk.com
Trends in margin debt remain remain continue to be neutral for future buying power in the stock market, according to the most recent data on margin debt released by the New York Stock Exchange. In June, margin debt fell about 3% to the lowest level since last October, according to the NYSE data. Since March of 2000, margin data has been reduced 48% from a peak of $278 Bln to $146.27 Bln in June. Margin debt had hovered around $180 billion at the end of 1999 before the Nasdaq skyrocketed at the start of 2000. With financial leverage significantly reduced, recent problems in the stock market are now less likely to snowball as a result of margin selling and are more likely to be reflective of high levels of pessimism than of the unwinding of financial leverage. That process was completed in early aftermath of the bursting of the financial bubble. It is noteworthy, however, that as a percent of the total market capitalization, margin debt is now at about 1.25%, which is above its 10-year average of about 1.06%, although it is below the peak of 1.67% set in January 2001. |
