Money + Margin

Structural market developments are leading to extraordinary moves in markets. We have seen highly shorted stocks, such as GameStop and AMC, accelerate to very high prices in a short period of time. A backdrop of easy money, surging retail brokerage activity, and ballooning margin balances set the stage for these moves.

Two weeks ago, I posted a chart showing how M1 rose 65% in 2020. The chart in this post highlights the margin debit balances in U.S. brokerage accounts along with the S&P 500. This is the total level of borrowing in margin accounts. Similar to the surge in M1, margin debits rose 62% from March to December.

Combine this easy monetary environment with a surge in borrowed money and you can get huge moves in security prices especially when social media can corral a significant buying force.

A short squeeze can occur as short sellers are forced to buy shares to close positions. Others buying shares and call options may have initiated the upward moves. The sellers of these options need to protect themselves from upward moves so they also buy shares. But, as the share price rises, more shares need to be bought to hedge these now higher delta calls. Adding fuel to the fire, the change in delta (gamma) can increase the need to hedge.