Managed Funds Margin Loans - Is it worthwhile?

Hi all,

Several questions:

* If the interest is tax deductible, why wouldn't more people invest via a margin loan. Is there a negative?...the only one i can think of is the fact that u need to pay more each month and not get the deduction until the end of the tax year. And also the extra risk of magnifying losses? Are there any other traps?

* Any advantages in using a margin loan on directs shares than say managed funds?

* are margin loans worthwhile for such low amounts...say having $5000, and then borrowing the other $5000 margin loan?

* is there a margin loan which people recommend? looking for a cheap, easy and reputable margin loan

TRhanks.

 

Risk of margin call is a bit of a trap... but ultimately margin loans are a good idea if you believe the increase of your investment is greater than the interest payable on the loan.

eg if I believe BHP's income and growth will be 12% p.a., and the interest on the margin loan is 7% p.a, then it's worthwhile for me to take out a margin loan and invest in BHP.

if I believe CBA's income and growth will be 5% p.a., and the interest on the margin loan is 7% p.a, then it's not worthwhile for me to take out a margin loan and invest in CBA.

No advantage/disadvantage really. They work the same...

Sure. $10 000 in the game is better than $5000.

Visit INFOCHOICE | Investment | Margin Lending

 

I would say that the tax deductibility is an added bonus, most people don't like to magnify their losses and they will focus on this over some little tax deduction...

Only the same as if it wasn't in a margin loan...

"Theoretically" it's obviously better to invest $10,000 over $5,000, though the interest cost is a downside but hopefully your investments will make it worthwhile.

Ummm, there are a few bigger ones around, which include www.colonialgearedinvestments.com.au, St.George Bank - Margin Lending, H-SPHERE, BT Financial Group - Margin Lending, NAB - You'll see everything differently with NAB Margin Lending and www.macquarie.com.au/leverage . Which are all owned by banks (though you don't necessarily have to walk into the bank to access). When the loan size gets bigger you can generally negotiate a better interest rate.

TRhanks.[/QUOTE]

No worries

Dan

PS This is general information. Before making an investment decision speak to your FPA registered financial planner, accountant or tax adviser.

 

Margin lending is only worthwhile if the return rate is higher than the interest rate. In my personal situation - I can afford to invest $1000 a month - so $12,000 a year.

If I add that $12000 directly to an investment of $50000 then the end amount after a year is 50k + return rate + 12k.

Alternatively, I could take out a margin loan to increase the loan value to $100,000. The end amount is then 100k + return rate + (12k -interest costs).

So if I assume 12% return, and 8.9% interest rate, then:

Direct contributions: 50,0000 + 7000 (return) + 12000 = 69000
Margin loan: 100000 + 14000 (return) + 7550 (12k - interest) = 121550

Now obviously the true value of the margin loan amount is 71550 - so your only 2.5k better off after the first year - but if your goal is long term (like me) then the growth compounds much quicker.

 

Gearing means you use other peoples' money.

This gives bigger investments.

This gives bigger distributions, bigger capital gains & bigger capital losses. - i.e. risk.

The problem with a margin loan is the danger of a margin call at an inconvenient time. You may be in it for the long haul, or your tolerance to a fall in the market may be a lot better than your lender.

But your lender's objectives may be more conservative so you risk a margin call at a bad time - when prices are down.

This must be factored into your investment strategy.

Cheers,

Rob

 

Mine has been worthwhile.

 

Just remember to do your research so you can make an informed decision and have some idea of expected outcomes and do a monthly cashflow forecast to ensure you are not going to get caught out with a shortage of cash. Keep your LVR to 50% to minimise the risk of margin calls. Your LVR can be raised according to your risk profile and your availability of funds should you have margin call.

 

Sorry to hijack your thread archangel, but given the topic I'd like to ask a question to shed some light onto my situation.

What do people think of securing a margin loan over a managed investment fund which is already negatively geared, ie CFS Geared Share?

As a young investor, my idea was to obtain the margin loan over the above fund (currently valued at around 5k), and also do the same with a more conservative Property Securities Fund- essentially, is the bigger investment worth the risk?

It's worth noting that I have a fairly high tolerance to risk, and should be ok in the event of a margin call.

Your thoughts? Thankyou all.

 

yes gearing on geared money is risky. However i think most people are happy to at a conservative level. However a 50% LVR (margin loan) into the geared fund will give you 75cents for every 25 cents you put in (roughly). This is alot safer option than saying getting a 75% LVR on any share fund. So i beleive its fine but you might not be.

The additioanl risk in a gearing fund. If their is a one day market crash, and the Geared option self LVR raises to 80% they suspend redemptions. So you must have the cash to meet the margin call. Most ungeared funds dont have this and you can always rely upon selling the item if you dont have the cash.

 

It would depend on the margin wouldnt it?
if you were margined 50% then you're only paying 7% interest on half your CBA shares. Therefore you are paying 3.5% interest on your parcel of shares and getting 5% return on them. You are 1.5% ahead. (ok if inflation is just under 3%, then technically you are still going backwards, but you need to take into account that you are paying margin loan interest on only a percentage of your portfolio).

 

Hi Voig,

I guess what I was getting at was, irrespective of what you might get as a return on your own capital, if you are paying $x in interest, yet that money allows you to make $x+1, then borrowing the money has been worth your while.

 

With margin loans....

Am I just paying the interest rate on the ammount I borrow or can I actually pay off the principal?

Not sure how payment of the principal works.....some have got 2, 3, 5 year terms. So does this mean that say at the end of 5 years, I need to give them back the amount they own me....and during this time I need to pay them the interest?

Since most funds take more than 5 years to be truly worthwhile...why would anyone take out such short term margin loan?

 

As sim mentioned, you normally just use interest-only lines of credit. Hopefully only paying for what you use.

Repayments of principle are not tax deductible (capital), and it gets a bit complex calculating this variable non-deductible capital portion (amortised loans).

Not to mention the fact that if & when the time comes to repay an IO loan, the outstanding principle is an historical figure and your capital gains will more than cope with this.

Capitalising interest is another matter ...

Cheers,

Rob

 

Don't suppose you'd mind explaining it for me?

Using the CFS rate of 8.9% and a $10,000 investment. I get a margin loan, so it's now $20,000. I have to pay $890 - so rather than forking over my cash I'm doing what?

Am I actually borrowing $10,890 and hoping that after the year's out I've made more than that?

 

Thanks Sim, explained it perfectly.

 

Or take the distributions and pay off non-deductible debt (ie PPOR), and recycle back into the margin loan account via a LOC (LOC rates are a bit lower than ML rates, so you want to keep the LOC balance high and the ML balance low).

This keeps your LVR manageable since the distributions are effectively into the ML account, keeping your LVR from blowing out (assuming markets are stable or rising!).

 

Simple but catches people when growth is not great.

You usually pay a premium for the compounding facility - extra risk !

Also, be careful the rate quoted. If 8.9% is the annual rate, then for interest calculated daily but compounded monthly the effective rate is 9.27%.

Now the various Residential Tenancies Acts will not allow you to peg the rent to the property price movements or the Landlord's personal financial stress, so your income is fixed from this source.

But if you capitalised your interest, then your outgoings are growing exponentially.

Two adjacent suburbs here in Melbourne. One has had a median 45% price rise in the last 6 months, one has an 18% reduction. Normally we don't regard property as volatile ?

Volatility requires a much larger buffer, especially if the only asset to realise is direct property - i.e. big inconvenient chunks.

I well remember the last 'correction' when people were using credit card debt to pay margin calls - convinced that it was a temporary dip.

Cheers,

Rob

 

What kind of cash buffer would be good to keep incase of a margin call? Say you're geared at 60% percent navra and cfs geared (assume equal amounts) what kind of dips would cause a margin call, and would be a matter of having to put a certain percentage into the margin loan (not the funds) to keep the lender happy? Whats a nice yardstick percentage (of the funds invested) to keep in an at call account in case of a margin call?