Markets Relax Merrily on a Powerful Time Bomb

Magnitude unknown but huge. Brokerages push it to new heights.
Stock and bond market leverage is everywhere. Some of it is transparent, such as NYSE margin debt which was $539 billion as of the June report. But the hottest form of stock and bond market leverage is opaque, offered by financial firms that usually don’t disclose the totals: securities-based loans (SBLs) – or ‘shadow margin’ because no one knows how much of it there is. But it’s a lot. And it’s booming.
These loans can be used for anything – pay for tuition, fix up that kitchen, or fund a vacation. The money is spent, the loan remains. When security prices fall, the problems begin.
Finra, the regulator for brokerages, doesn’t track this shadow margin, nor does the SEC. Both, however, have been warning about the risks. No one knows the overall amount of this shadow margin, but some details have been reported:
Morgan Stanley had $36 billion of these loans on its balance sheet as of the end of 2016, up 26% from 2016, and more than twice the amount in 2013. Bank of America Merrill Lynch had $40 billion in SBLs on the balance sheet at the end of 2016, up 140% from 2010;

This post was published at Wolf Street on Jul 27, 2017.