Many people I know love fall, and I am one of them. I like cool weather and I like the trees and their amazing colors. Even though I welcome fall I know what has to naturally follow: the often brutal cold, icy streets and shivering winds I could do without.
One condition very welcomed leads to another condition that causes us to make changes in attire and even actions. Sentiment indicators, which attempt to monitor and measure investor behavior, in the financial market can have the same impact.
We have had some mild winters in Indiana and have even been able to golf on New Year’s Day occasionally. Just because autumn has arrived does not mean winter temperatures must follow, although it usually does. In certain instances, this is how certain sentiment indicators work. By understanding how investors behave at previous turning points in the market, we can make estimations that their behavior will repeat itself at similar junctures in the future.
One of those indicators is called margin interest. Margin is when you borrow against the current value of your investment portfolio to buy something else. You could use it for cash to buy cars or go on vacation, but usually it is used to buy more stocks. In other words, you use the equity in your portfolio to buy even more securities. We call this leverage. The higher the leverage the more nervous we get as sentiment indicators tell us at some point, people will sell their holdings to pay down the margin debt.
In the meantime, however, leverage is like a beautiful fall day. The markets go higher and a sense of joy fills Wall Street. We all know there will be a price to pay at some point but that day could be weeks, months and possibly even years away.