Should I get a loan to invest?
Photo by: Seth W.
This guest post is from Ryan at Millionaire Money Habits, a website dedicated to discussing how to build wealth and retire rich by developing the habits of self-made millionaires. Make sure you sign up for his RSS feed! If you are interested in writing a guest post to be featured on a Saturday please contact me.
Imagine that you knew in 2007 that Apple’s stock would be up 135%. If you would have borrowed $100,000 to buy Apple shares in Jan. ‘07, you would be sitting on a nice $135,000 profit, minus taxes, fees and interest on the loan. That’s a nice deal for not using any of your own money.
As you can see from the above example, getting a loan to invest can dramatically boost your investment returns and create riches. Using “other people’s money” in order to take advantage of huge investment gains is nothing new. If you are a home owner, for example, you used the banks money to purchase your home, which you hope appreciates at a greater rate than your loan rate. This is using leverage in order to make money.
Sounds great, but is getting a loan to invest smart?
Using other people’s money to invest is a high-risk game, and should only be a strategy used by the shrewd, experienced investor who has the capital to repay the loan should things not go their way. Essentially when you obtain a loan to invest you are agreeing to pay for money in the future, at a premium, in order to have money today. That means you expect that money to be there in the future.
Imagine the repercussions if Apple’s stock dropped 50%. A 10-year, $100,000 loan with 9% annual percentage rate would look like this
- $100,000 investment is now worth $50,000
- $8,737.70 in interest payment for the year
- Plus loan, transaction and brokerage fees
If a deal doesn’t go your way, you have to come up with the money to cover the loss plus the interest payment on the loan.
What if you invested in the market the day before Black Monday, when the stock market tumbled 22.6% in a single day? That is the kind of risk you must be willing and able to take when considering an investment loan.
Getting a Loan to invest is not for the amateur
For the astute investor, using leverage can dramatically increase your investment returns and generate riches. This strategy does not come without big risks though and is not recommended for the amateur investor. The opportunity for magnified gains also means the risk of magnified loses. Please consult with a certified financial planner before considering using other people’s money to invest.
Thoughts from Glblguy: What do you think about using borrowed money for investments? Those that have been reading me for while know that I personally am not a proponent of using other peoples money, but that doesn’t mean it isn’t right for others. Has any of you done this? Was it a success or failure? Add a comment!