Friday, August 8, 2014

Two indicators explain some of the recent volatility

For those looking back at the last couple weeks and scratching their heads about all the volatility in US equity markets, here is a thought. Yes, we've had some new geopolitical risks such as the Russia sanctions as well as some fresh economic data from the US. But if you step back and look at the situation, very little has actually changed as far as market and economic fundamentals since the end of last month. So why such (relatively) sharp market moves? Here are a couple of indicators that may shed some light on this volatility.

Leverage in the equity markets has reached new highs recently as shown by margin debt levels. Even as a fraction of the overall market cap, margin buying has been quite significant. While such activity doesn't necessarily lead to a significant correction (as some have been suggesting), it's a sure way to get some real volatility going.

Another indicator that has been pointing to an environment that is ripe for some good market swings is the IMX index. It is basically a measure of how aggressively accounts are positioned across the TD Ameritrade platform. Unlike the bull/bear surveys, this index actually tells us what retail accounts are doing rather than how they feel about the market. And up to the last week of July, positioning has been increasingly aggressive.

When these measures are released for the month of August, they are likely to show a (temporary) reduction in risk taking. 
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