Extreme leverage & Greed caused Chinese stock market crash

Extreme leverage & Greed caused Chinese stock market crash

One clear sign that the masses are jubilant is margin debt.  High margin debts are associated with feeding frenzy events.   This usually takes place because the masses are desperate and looking for an alternative investment to recoup their losses.  In the case of China, the cooling housing market provided the trigger for the masses to look for something new.  The loosening of margin rules proved to be the missing factor that was needed to fuel a stock binge.  In 2007, stock regulators forbade margin trading, but as this hurdle was removed, investors decided to borrow hand over fist.

History illustrates that the main role for the masses is to serve as cannon fodder and when they pile into anything, it is a clear signal as any that it is time to bail out.  The masses are also known as the dumb money.   With the restrictions on margin trading lifted, margin positions soared; in July of 2014, value of margin positions stood roughly at $64 billion, by December it had soared past $130 billion.  The daily turnover in the CSI 300 Index futures experienced a fourfold increase in the space of one week, surging past $2 trillion. That is not the end of the story

Most of the Chinese investors opening new accounts did not even have a high school diploma and to bypass the limitations of margin trading, many investors turned to shadowy banking sources, that provided leverage of up to 10 times of one’s stock positions. Clearly insanity was in the air and the balloon was going to pop; the chart below shows that history repeated itself the same way it did with the Tulip mania, the dot.com bubble, etc.

 Greed  and stupidity caused Chinese stock market crash

The morale of the story is simple; when the masses jump in its time to bail out especially if Euphoria is in the air. When people who know nothing about investing suddenly become experts, it is your signal that the end is near.  Is the Chinese bull dead forever? The answer would be a no.  The market is still letting out speculative forces and it will most likely test its lows again before a long-term bottom is in place. However, you can use the time now to compile a list of the best companies and when the time is right you can jump in and make a fortune. At least, that is our game plan. Currently, we are for our trend indicator to trigger a new buy signal; this is the same indicator that got our subscribers in as early as Dec 2013 and out around June. While we did not get out at the exact top, we got out at a level that was pretty darn close to the top and that is good enough for us.  So what is your game plan?