Comment by nabla9

4 days ago

> On the flip side, trading with margin debt can also exacerbate losses because if a stock's value were to depreciate, the investor may face a margin call and would need to come up with additional cash to reach the minimum requirement.

That's just the flip side for individual investor. There is also collective risk.

The worst comes when there are too many investors with margin debt and they start to get margin calls at the same time. This causes prices to drop and it triggers even more margin calls, starting an avalanche where stock prices drop just from forced sells.

The main issue are not household investors, the main systemic risks are in overleveraged hedge funds and banks (and a completely corrupted SEC and FINRA, with essentially 0 policing).

See Archegos Capital, Evergrande in China, 2008 financial crisis, Citadel (the hedge fund) with assets almost equal to "securities sold not yet purchased", etc.

Then there's just tons of crime like JP Morgan making 10 billy by spoofing gold prices and then paying a 1 billion fee to pay off the complicit regulator and be able to "keep playing".

It'll pop, the question of course is when? Ponzi's can go on for decades before something breaks.

  • Hedge Fund net exposure readings are available in Prime Broker reports. Currently, institutional net exposure isn't that high on a historical lookback. They've essentially been forced to chase since April (the market movement since then has essentially been a large front-run until recently). They are at high gross exposures though, so their contribution to the risk landscape has been, well, what we've seen in the past few days with a huge rotation/unwind under the hood, with mild net selling but large amounts of reshuffling.

    Bank balance sheets are conservative currently.

    >It'll pop, the question of course is when? Ponzi's can go on for decades before something breaks.

    Tautological. Broken clock right twice a day, etc etc. We had a massive collapse in March 2020, and in 2022 when the banking system was pseudo-nationalized/backstopped. If you're still waiting for "the collapse", it begs the question about how one was positioned for those events. Frankly, I saw many people cruise right through 2022 without ever switching to bullish, even when Meta was single digit forward PE and such. As someone who was managing a portfolio that heavily deployed after the Fed backstopped the banking system, I clearly remember that this moment (which was one of the best moments to buy in the last decade, and offered a long list of ludicrously low valuations, especially on the fringes ex: I was buying Chinese companies for less than half of the valuation of the cash on their balance sheet, with the actual business with PE under 5 included for free), retail and institutional sentiment readings were the most pessimistic since the Great Depression. Likewise, stepping away from the AI bubble there is a long list of extremely low valuations in the current market (companies with PE under 8, buying back 15% of its shares every year, for example, or energy companies sub-10 PE with conservative balance sheet management, which has been a huge positive shift in the industry, yet everyone wants AI stocks at 300x forward earnings).

    • Those collapses were great buying opportunities.

      During the pandemic, I bought energy stocks near the bottom. Remember when the price of oil went negative? I was watching CNBC at the time. I felt either the world was ending and none of this mattered anyway, or it was a great time to buy. The fund I bought (VDE) is now up almost 150%. And I'm getting a great dividend, relative to my initial investment.

      I got good deals on AMZN, GOOG in 2022. Bought them all under $100. I got a good deal on AAPL, too.

      The banking problems in 2023 was a good time to get into bank stocks. I started averaging into a regional bank fund and it's done quite well.

      My advice to the average retail investor is simple: don't panic.

>The worst comes when there are too many investors with margin debt and they start to get margin calls at the same time. This causes prices to drop and it triggers even more margin calls, starting an avalanche where stock prices drop just from forced sells.

Yep, liquidity matters so much in the short run, and people getting margin calls will get disproportionately hurt. It's the same reason why GME shot up in price even though it was just marginally profitable, all the liquidity dried up, and there was still pressure on the buy side. I'm a big fan of Taleb when it comes to finance: the #1 rule should always be "don't blow up." Trading on margin is a good way of allowing that to be a possibility.