Warnings have emerged about new risks in the U.S. stock market as margin debt and investments in leveraged exchange-traded funds (ETFs) reach unprecedented levels.
The Wall Street Journal reported on June 28 that investors are increasingly engaging in margin loans and leveraged ETFs, which amplify returns by 2 to 3 times, raising concerns about potential instability in the stock market.
According to the Financial Industry Regulatory Authority (FINRA), the balance of margin loans—money borrowed from brokerage firms to purchase securities—hit a record $1.4 trillion in May, a 54% increase from the previous year.
High-risk leveraged ETF assets are also rapidly increasing. Financial data firm FactSet noted that from March 30 to June 3, leveraged ETF assets nearly doubled to a record $220 billion. This surge is attributed to both hedge funds and individual investors flocking to leveraged products linked to major growth stocks, including technology and semiconductor companies like Tesla and Nvidia.
The Journal pointed out that these risks have already manifested in the South Korean stock market, where leveraged investors have caused significant price fluctuations in semiconductor stocks, triggering circuit breakers during declines.
Lee Chan-jin, head of the Financial Supervisory Service, expressed regret over the inability to prevent the launch of single-stock leveraged funds, noting that approximately 92% of holders are individual investors and trading enthusiasm remains high.
Mark Hackett, chief market strategist at Nationwide Investment Management Group, voiced concerns about the unintended leverage accumulating in the market, likening it to a lottery mentality where investors use margin loans to buy leveraged ETF options, creating a multi-layered leverage structure.
The issue is that leveraged products not only increase the risk of investor losses but can also disrupt the price movements of underlying assets as their size grows. This could lead to a 'tail wagging the dog' scenario, where derivative trading and hedging demands affect the fundamental price flows.
Barclays, a British investment bank, estimated that as funds flowed into leveraged ETFs, asset managers purchased about $300 billion in derivatives since the end of March. Market makers have bought the underlying stocks to hedge these derivative risks, contributing to the upward momentum in AI and semiconductor stocks.
Conversely, if stock prices decline, a vicious cycle could ensue. Leveraged ETFs may reduce their investment in underlying stocks to meet target returns, increasing selling pressure and potentially exacerbating price declines.
Dave Nadig, research director at ETF.com, cautioned that excessive funds are flowing into leveraged individual stock products, warning that as more capital is deployed in predetermined buying and selling patterns, market distortions could increase.
* This article has been translated by AI.
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