Margin loan profit only 3% growth away

It can be difficult in the middle of an economic downturn to talk positively about borrowing to invest. However, what's gone is gone, and, as any investor will tell you, the future is what matters when it comes to investing your existing assets.

If we are anywhere near the bottom of the market, then now is the time to start considering whether margin lending offers one of the better routes towards wealth creation.

Interest rates are currently around the 8% level for the majority of investors, although rates are available at levels as low as 6.15% for some of the premium-end investors.

MARGIN LENDING: A back-of-the-envelope example *

How much would your portfolio have to increase in value for you to make a profit?

To answer this, we make some assumptions:

You pay a typical current interest rate on your margin loan of 8%
You pay your interest in advance, offsetting tax at a 40% rate applicable to those earning between $80-180,000.
You have invested $50,000 of your own money.
You also have a margin loan of $50,000.
This gives you a loan-to-value ratio (LVR) of 50%.

Based on the above assumptions, your upfront interest payment would be $4,000, saving you $1,600 in tax. Net loss so far: $2,400.

With a 50% LVR on a $50,000 margin loan, your portfolio size is $100,000. In order to break even your portfolio would need to increase by just 2.4% in value.

This excludes transaction costs every time you trade and dividend yields, which are in any case likely to be a decreasing factor in calculations over the coming year. Calculating the extra trading costs and dividend tax implications will likely increase the break-even point of your portfolio slightly. Even so, the end result is likely to be a 3-4% growth in order to leave you in profit.

Such a performance has been the stuff of dreams over the past 18 months, compared with a long-term annual stock market return of close to 10%. However, for those prepared to call the bottom of the market, this level of performance could be well within reach any time soon.

* The above is a hypothetical example only and does not take into consideration individual circumstances. It should not be used for personal advice. Please consult your accountant or financial planner instead.

Investing ...

Margin Loans ...