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Margin loans down, but not entirely out

Nicki Bourlioufas  |  05 Mar 2018Text size  Decrease  Increase  |  
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Margin lending was all the rage leading up to the GFC, but their popularity with investors has declined dramatically. Most experts don't expect margin loans to become any more favoured, saying there are better forms of debt available that cost less and are less risky. 

Over the past decade, fewer and fewer investors have taken out margin loans despite low interest rates. From a peak of 248,000 margin loan accounts in December 2007, the most recent Reserve Bank of Australia (RBA) data indicate margin loan numbers have fallen to 126,000 accounts in December 2017. 

The value of loans outstanding stood at $11.4 billion, compared to $41.6 billion in December 2007. 

Margin loans allow borrowers to lodge cash, shares, or managed funds with a lender, typically a bank or stockbroker, which then provides a line of credit to the borrower. This line of credit, or the margin loan, is used to buy shares and managed funds, which then also become security for the loan. 

Standard margin loans normally have a maximum allowable LVR of 40 to 80 per cent, depending on the assets provided as collateral. These loans are subject to margin calls if a decline in the value of the underlying collateral raises the LVR above the maximum allowed. 

While margin loans can help you increase your returns, they can also magnify your losses. Investors may face huge losses if the share market falls as they may be forced to sell shares at a low price to meet a margin call.  

According to Andrew Lord, a director at wealth management firm Sherbrook Private, investors cut their losses after the GFC and dropped margin loans. His clients prefer to fund their investments through lines of credit. 

"This reduces interest rates by up to 2 per cent and there are nil margin calls. We are also not restricted by a marginable list. Thankfully, this strategy has worked out exceptionally well," he says. 

"Margin loans are still tainted for those that had a margin call in 2008-09--something you don't forget." 

AMP Capital chief economist, Dr Shane Oliver, says margin lending has been in decline because the experience at the time of the GFC was so bad, with investors being forced to close out their positions at the worst possible times and lock in losses. 

There are better forms of debt available, he says. 

"Geared share funds or just using a mortgage (within reason) to finance share investments make more sense as they don't run the risk of forced sale just because shares fall below a certain level," Oliver says. 

"Buying shares on margin also tends to be more popular when there is share-market euphoria and so investors throw caution to the wind. But we have yet to see that. So, as a result, low interest rates have had little impact in making margin loans more attractive. 

"Property loans for investment purposes have their own risks as does using any debt for investing, but they generally won't trigger a forced sale just because a property's value has fallen below a certain level." 

According to CommSec's Brian Phelps, general manager of CommSec retail distribution, margin loans have been tainted since the GFC but they still have their place if used wisely--and technology is enabling better management of margin loan debt. 

"Borrowing to invest in the share market does not have to be a high-risk activity. Gearing conservatively, investing in good quality stocks, and holding a diversified portfolio can help reduce the likelihood of a margin call occurring," says Phelps. 

"Technology has changed dramatically since the GFC. Today, CommSec margin loan customers are notified by SMS when their accounts enter the buffer zone. They are updated daily (via the Mobile App) of their loan balance and the gearing levels associated with that balance. 

"CommSec customers can set alerts on the app to receive updates on stock prices throughout the day, and updates on margin calls well in advance of them being received. When used properly, a margin loan is an excellent investment tool."  

Phelps adds that investors are using household debt to fund share purchases, sometimes in conjunction with margin loans. 

"There is a high level of usage of home loan redraw facilities and lines of credit secured by home equity used for the purpose of investing in the market. Investment Trends suggest that 21 per cent of investors who currently use margin lending also use home loan redraw facilities to support their investment strategy and 24 per cent use lines of credit secured against home equity." 

According to RBA statistics, the average credit limit utilisation sat at 50 per cent in 2007 compared to just 23 per cent in 2017. Further, gearing levels over the same period have declined from 45 per cent to 24 per cent, says Phelps. 

The declining level of margin loans comes at a time when the ratio of Australian household debt to disposable income is rising well above that in other developed nations. Debt levels in Australia have gone from the bottom of the pack to near the top. 

In 1990, there was on average $70 of household debt for every $100 of average household income after tax. Today, it is nearly $200 of debt (not allowing for offset accounts) for every $100 of after-tax income, says AMP's Oliver. 

But the rise in household debt is not as bad as it looks. While the average level of household debt per person has increased from $11,837 in 1990 to $93,943 now, this has been swamped by an increase in average wealth per person from $86,376 to $475,569. 

In addition, Australians are not having major problems servicing their loans, says AMP's Oliver. 




Nicki Bourlioufas is a contributor for Morningstar Australia.



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