by Bob Stokes
Updated: December 04, 2018
You probably know that investors who use extensive leverage can be highly rewarded -- or severely punished -- depending on factors like timing and the size of a market move.
The extent to which investors employ leverage is also a sentiment indicator.
Before we get to what's going on now in late 2018, let me show you how EWI analyzed leverage back in June 2007. This chart and commentary are from the Elliott Wave Financial Forecast:
Investors are expressing a wild-eyed optimism rivaling that of 2000 in their use of leverage. The chart shows that April brought another surge in the use of NYSE margin (shown as a percentage of market capitalization). A similar push accompanied the S&P 500's big top in 2000. The six-month rate of change at the bottom of the chart depicts a rare 4% surge in the use of margin. The figure is not as high as it was in 2000, but it is high. The resulting margin call... should be vicious.
Four months later, the stock market topped and went on to lose more than half of its value through March 2009.
Let's now take a look at what's going on with an investment vehicle that's exploded in number and popularity since that 2009 stock market bottom: exchange-traded funds (or ETFs).
This is from our November 2018 Elliott Wave Financial Forecast:
On October 3, the day of the Dow's high, the total assets in leveraged-long ETF funds hit $13.7 billion, the highest ever.... When ETF investors are super bullish, they jack up their bets on stocks with the use of leverage. They were never more sure of the bullish prospects for stocks than they were on the day of the top in the DJIA.
Since that time that investors reached "max" leverage, stock market volatility has returned in a big way.
Sentiment indicators aren't everything. Other tools, like the Elliott wave model, can help you to fine-tune your market timing. Just like in 2007, today's Elliott wave juncture speaks volumes as to what's next for stocks.
Learn what our Elliott wave experts are saying about the stock market's next big move.
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