Wall Street Rally: Hold the Cheers

by Stephen Lendman

Days of market turbulence likely haven’t ended. They’ve been more severe than any time since late 2008/early 2009.

Hindsight may show upswing days were classic dead-cat bounces - a combination of short-covering and market manipulation.

An August 26 Wall Street Journal article should give investors pause - headlined “Margin Calls Bite Investors, Banks,” saying:

“Loans backed by investment portfolios have become a booming business for Wall Street brokerages. Now the bill is coming due - for both the banks and their clients.”

Bank of America and other lenders are issuing margin calls. Investors either have to put up more money to cover portfolio losses or sell holdings underlying their loans.

“Banks…are likely to take a hit to a key profit source if investors pull back from these loans as many expect,” said the Journal.

As of June 30, Morgan Stanley had $25.3 billion in equity loans - 37% higher than last year. Bank of America’s Merrill Lynch division had $38.2 billion in loan volume. Wells Fargo had $59.3 billion. Other Wall Street banks and brokerages issued huge amounts of credit - investors borrowing at low interest rates, taking full  advantage of bull market profit potential.

Things go as expected on upswings - polar opposite when they turn sour. Margin calls in enough volume can kill a bull market. When investors have to put up cash to cover losses, selling holdings usually follow, driving markets lower, how far for how long remains to be seen if beginning to occur now.

Zero Hedge called the Journal’s article “one of the most concerning and troubling finance/economics related articles…all year.” It explained the following:

Brokers let investors “take out loans of as much as 40% of the value from a portfolio of equities, and up to a terrifying 80% from a bond portfolio. The interest rates are often minuscule, as low as 2%, and since many of these clients are wealthy, the loans are often used to purchase boats and real estate.”

The Journal explained securities-base loans as follows:

“(T)he customer pledges all or part of a portfolio of stocks, bonds, mutual funds and/or other securities as collateral.”

“But unlike traditional margin loans, in which the client uses the credit to buy more securities, the borrowing is for other purchases such as real estate, a boat or education.”

“Securities-based loans surged in the years after the financial crisis as banks retreated from home-equity and other consumer loans.”

“Amid a years long bull market for stocks, the loans offered something for everyone in the equation: Clients kept their portfolios intact, financial advisers continued getting fees based on those assets and banks collected interest revenue from the loans.”

“(D)angerously high margin balances,” followed, according to Circle Squared Alternative Investments president Jeff Sica. When markets decline, margin calls rise - sharply if downturns continue.

With equity valuations way over-extended - at bubble levels vulnerable to bursting, the risk of markets crashing is greatest since 2008.

Stephen Lendman lives in Chicago. He can be reached at lendmanstephen@sbcglobal.net.

His new book as editor and contributor is titled "Flashpoint in Ukraine: US Drive for Hegemony Risks WW III."

http://www.claritypress.com/LendmanIII.html

Visit his blog site at sjlendman.blogspot.com.

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