Traditionally, borrowing on margin to amp returns, has been a tactic used by sophisticated investors but some say margin loans can make sense as a tool for mainstream investors. Mitch Reiner says with interest rates at historic lows, margin loans can help roll over debt or work as a way for a small-business owners to temporarily finance inventory.
Reiner advises clients to use margin loans for the short-term, targeting about six to 18 months. To avoid getting squeezed, Reiner says, investors should borrow no more than 10% to 15% of a diversified portfolio. That way “the likelihood of a margin call should be slim to none,” he says.
According the the Financial Industry Regulatory Authority, margin accounts hit $331 billion at the end of March. These accounts allow investors to borrow against the value of the securities in their brokerage portfolios. That amount is up about 65% since the market bottomed out back in 2009.
But investors should always be very careful, even those seeking a short-term strategy. Borrowing on margin is tempting for obvious reasons, but it can also be a very risky move. For example, when investors put borrowed money in the stock market—the traditional use for margin loans—it magnifies gains and losses. For example, by borrowing $50,000 against a stock portfolio of $100,000, and investing it back in the market, an investor boosts potential returns by half. If the market climbs 10%, he gains $15,000 (minus the cost of interest on the loan), rather than $10,000. But the losses would be just as large if the stock dropped.
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