Author Topic: Does anyone use margin?  (Read 14099 times)

Kalergie

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Does anyone use margin?
« on: January 14, 2017, 01:18:43 PM »
I'd like to kick-off a discussion on the pros and cons of using margin in their investment strategy. Statistically, the stock market more often than not has positive returns. I would like to exclude the use of margin for day trading or buying on a hunch with money one does not have (which I would call market timing on steroids). What I refer to is using a small margin % (5-10%) equivalent to your emergency fund cash, and simply go with the same Asset Allocation as you would have without the use of margin. The low margin % would ensure to avoid the dreaded margin call. Again, if we continue to expect the stock market to return consistently positive more than 50% of the time, and provided one stays the course, using margin could improve your portfolios performance.
What do you think? By the way, how is the added risk accounted for in the real returns?

BTW: I am not seriously planning to do so as I am too much of a chicken but I like a theoretical discussion about this stuff. :)

Indexer

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Re: Does anyone use margin?
« Reply #1 on: January 14, 2017, 02:58:17 PM »
What's the interest rate?

That is the problem and that is why margin normally gets used for short term trading. If the rate is 7.75%(Fidelity) then you aren't betting the market will just go up over the long term. You are betting it will go up at least 7.75%.


Personally, what I find more realistic, don't pay down debts with low rates. Paying those down as slowly as possible and investing the rest means you're keeping debts so you can invest more.

Kalergie

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Re: Does anyone use margin?
« Reply #2 on: January 15, 2017, 01:04:47 AM »
Interactive Brokers offers 2.16% these days on margin. Obviously it's not locked in.

gerardc

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Re: Does anyone use margin?
« Reply #3 on: January 15, 2017, 01:12:23 AM »
With that small of a margin, you're roughly looking at increasing your average long-term return from (say) 8% to 8.1%. In exchange, you now have a non-zero margin call risk. I don't find anything wrong with that.

Kalergie

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Re: Does anyone use margin?
« Reply #4 on: January 15, 2017, 01:29:03 AM »
Non-zero? As in not zero but so miniscule that it's worth the risk? Is that what you're saying? Thanks!

gerardc

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Re: Does anyone use margin?
« Reply #5 on: January 15, 2017, 01:38:29 AM »
Yes, non-zero but small. As to if going from 8% to 8.1% is "worth" that risk, that's debatable.

If you have an asset allocation other than 100% stock (say, 10% bonds) then I don't know if margin is attractive. Might as well trade your bonds for stock instead, which would accomplish roughly the same thing? Not sure.

marty998

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Re: Does anyone use margin?
« Reply #6 on: January 15, 2017, 04:05:36 AM »
Paging potm and bigchrisb for 2 people who appear to have done it successfully.

I don't feel comfortable having it over 30% LVR. Got burned in 2008/09 and that leaves a scar that won't ever heal. Even though the market recovered (duh, it always does), it doesn't matter if you don't have any capital left.

In truth these days I won't have my loan go over $20k. So as my portfolio gets bigger the max LVR actually gets smaller as I keep buying. Basically use it as a credit facility to take advantage of dips (like November 9). Our market was open when your vote counting was going on, and the market was having an epileptic fit that day.

daverobev

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Re: Does anyone use margin?
« Reply #7 on: January 15, 2017, 09:32:55 AM »
I'm going to, as/when the market corrects.

I am aware this is market timing. The flip of it is that I'm "100%" invested at the moment; I'm comfortable with that risk. If the market drops 10% ("from where?" yes I know), I'll put maybe 10% extra, of borrowed money, into the market.

IB rates are really awesome. I'll probably use that. Plus some HELOC for joint investing. In low cost ETFs.

If the market doesn't drop enough to 'look like a drop' (ie, no real doom and gloom) I won't bother.

Heckler

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Re: Does anyone use margin?
« Reply #8 on: January 15, 2017, 09:45:30 AM »
I got talked into an RSP loan from the bank one year (borrow an amount at low interest and pay it back -partially- with the income tax refund.  I only did it once, I think around 2008 when I knew nothing about investing. 

I won't repeat that ever again (although occasionally consider it).

What I do instead is a no interest, no risk loan from my cash emergency fund with a 1-2 month firmly budgeted term to pay back the EF from earned income and tax refund. 

So, no.  I don't use margin.

Kalergie

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Re: Does anyone use margin?
« Reply #9 on: January 15, 2017, 10:16:29 AM »
I definitely opt out from using margin to take advantage of market corrections. You guys said it, it's market timing and i swore to myself under no circumstances will I go that route.

I am more interested in keeping a constant 5-10% margin. Just like buying a house and using the Equity line of credit to top up my portfolio. Just not with a house but with margin provided by my broker.

That being said, I probably won't do it because:
The scary part is not the fact that the market will dip. As of now, I consider myself a very optimistic investor. Hence I am 100% in equity. I personally made peace with the fact that things will derail every once in a while. because I have only the market to worry about.

If you add margin to it, there's more variables. Not only does the market go nuts every now and then. Now I would seriously have to look at interest rates as well! And you know Murphys Law! Murphy's Law would punch me both in the throat (stock market crash) and knee me in the male parts (interest rate hike) in the same time. Not sure I would continue investing the same way while my portfolio drops AND the margin loan is going to cost me more in interest.


daverobev

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Re: Does anyone use margin?
« Reply #10 on: January 15, 2017, 10:23:03 AM »
I definitely opt out from using margin to take advantage of market corrections. You guys said it, it's market timing and i swore to myself under no circumstances will I go that route.

I am more interested in keeping a constant 5-10% margin. Just like buying a house and using the Equity line of credit to top up my portfolio. Just not with a house but with margin provided by my broker.

That being said, I probably won't do it because:
The scary part is not the fact that the market will dip. As of now, I consider myself a very optimistic investor. Hence I am 100% in equity. I personally made peace with the fact that things will derail every once in a while. because I have only the market to worry about.

If you add margin to it, there's more variables. Not only does the market go nuts every now and then. Now I would seriously have to look at interest rates as well! And you know Murphys Law! Murphy's Law would punch me both in the throat (stock market crash) and knee me in the male parts (interest rate hike) in the same time. Not sure I would continue investing the same way while my portfolio drops AND the margin loan is going to cost me more in interest.

The way I am looking at it is that we've massively overpaid our (very small) mortgage. Borrowing a few tens of k is really not a big deal; the rate will be the same as a variable rate mortgage. A rate hike is unlikely to be more than a couple of percent a year. I'm old enough that I had a mortgage at 7%. I remember my mum paying nearly 20%.

I'm out (nearly) of rental properties now. I am aware that I'm both a bit more seasoned than during the financial crisis, but also still my own worst enemy. We'll see.

If the market's dropped 50% and you're paying 10% for margin, it's still no big deal. Assuming you remain solvent ;)

Kalergie

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Re: Does anyone use margin?
« Reply #11 on: January 15, 2017, 10:33:49 AM »
@daverobev:
Thanks for the input. Regarding interest rate: I believe as long as the interest rate is a solid 1-2% lower than the market can deliver it does not matter to me if I pay 2.16% or 12.16%. Provided I stay solvent as you rightfully said.

Regarding solvency, if I'm calculating this correctly, I think the market could tank 90% if I had 5% margin. 80% if I have 10% margin. This is provided Reg T margin requirements are 50%. I hold VTI and VXUS only. I think it is safe to say if any of these tanks 90%, we will all have other problems! So I guess the margin call and solvency won't be the issue. Again, provided I won't start playing roulette! Or am I missing anything?

daverobev

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Re: Does anyone use margin?
« Reply #12 on: January 15, 2017, 11:27:43 AM »
@daverobev:
Thanks for the input. Regarding interest rate: I believe as long as the interest rate is a solid 1-2% lower than the market can deliver it does not matter to me if I pay 2.16% or 12.16%. Provided I stay solvent as you rightfully said.

Regarding solvency, if I'm calculating this correctly, I think the market could tank 90% if I had 5% margin. 80% if I have 10% margin. This is provided Reg T margin requirements are 50%. I hold VTI and VXUS only. I think it is safe to say if any of these tanks 90%, we will all have other problems! So I guess the margin call and solvency won't be the issue. Again, provided I won't start playing roulette! Or am I missing anything?

Quite right. There is LOTS of room if you are only borrowing small amounts vs your portfolio. Still, "I don't wanna" while the market is so high and in a precarious place (weakness in China, EU not straight, loonie incoming in the US, global climate change). If I'm wrong and the market goes up for 5+ years, no biggie - I wasn't going to invest that much on borrowed money anyway. If it crashes, ok - I'll lower my ACB.

The logistical issue I have is how do I borrow money on margin to live on while also borrowing to invest - if you start pulling money out for spending on food, it means you can't claim the rest as an investment expense, which is a shame.

bigchrisb

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Re: Does anyone use margin?
« Reply #13 on: January 15, 2017, 03:55:05 PM »
I've used margin for the last 9 years.  Overall, its been a success for me.  However, its not been without its trials and tribulations.

I started using margin in 2008 as the GFC was unfolding.  After all, stocks had already fallen over 20%.  That has to be a bargain, and time to load up on leverage, right? 

As we all know in hindsight, the GFC kept going deeper.  I ended up margin called (twice). These were pretty stressful and painful times, and I had limited skin in the game (total margin loan was about my annual salary, and about twice my annual salary invested).

I could have loaded up more at the bottom of the GFC if I hadn't been investing on margin.  As it was, all my spare savings were going in to propping up my margin loans, as opposed to buying bargain stocks.

However, I kept leveraging in as things recovered, and in the end, did well out of it through the cycle.   More recent years have seen me working down my leverage, and switching the loans from margin loans (callable), to loans secured against my house (not callable, slightly lower interest rates). 

I've been keeping the margin facilities open, as I'd like the flexibility to use them in future.  However, I'll only try doing so in another period of crisis.  Had I had margin loans at the start of the GFC (as opposed to part way through the decline), I would have hurt a lot more, and probably been scarred enough to dent my asset allocation tolerance for years.

By using margin, you increase the expected value of your portfolio.  However, you also increase the quantity of bad scenarios.  I haven't done the analysis, but I think when examining the impact of things like this, we should actually look at the change on the median outcome, not the change on the mean outcome.

Long story short:
- Margin worked for me, but in hindsight it was through a pretty fortuitous time.
- I almost came unstuck a couple of times.  Only my high income to debt ratio saved me.  If I had the portfolio size I have now, I would have been stuffed.
- Its probably resulted in me over-saving.  Because I've become accustomed to higher than usual volatility (effectively 200% stocks), I want a lot more buffer than is probably rational.  Think extra years of "one more year syndrome".
- Are you sure about your risk tolerance?  What we say, vs what we do under duress can be quite different
- <market timing alert> I'd do this again, but only if we were in another crisis style environment.  You increase your expected value of your portfolio, but you also increase the probability of downside tail. 

chasesfish

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Re: Does anyone use margin?
« Reply #14 on: January 15, 2017, 04:34:44 PM »
I've used my margin line from time to time, it really paid off big this year and helped me slightly beat the market.  I don't go in for more than 4-5% of my total net worth.

I'd probably use it more if the Fidelity rate wasn't so high.  I'm also too lazy to change brokers

gerardc

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Re: Does anyone use margin?
« Reply #15 on: January 15, 2017, 04:36:48 PM »
As we all know in hindsight, the GFC kept going deeper.  I ended up margin called (twice). These were pretty stressful and painful times, and I had limited skin in the game (total margin loan was about my annual salary, and about twice my annual salary invested).

I could have loaded up more at the bottom of the GFC if I hadn't been investing on margin.  As it was, all my spare savings were going in to propping up my margin loans, as opposed to buying bargain stocks.

What are the logistics of margin calls exactly? How much time do you have to pay back the loans? If you can prove high income with good job security, can you get more time or better conditions? (kinda like a "half secured" loan)

bigchrisb

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Re: Does anyone use margin?
« Reply #16 on: January 15, 2017, 04:45:00 PM »
As we all know in hindsight, the GFC kept going deeper.  I ended up margin called (twice). These were pretty stressful and painful times, and I had limited skin in the game (total margin loan was about my annual salary, and about twice my annual salary invested).

I could have loaded up more at the bottom of the GFC if I hadn't been investing on margin.  As it was, all my spare savings were going in to propping up my margin loans, as opposed to buying bargain stocks.

What are the logistics of margin calls exactly? How much time do you have to pay back the loans? If you can prove high income with good job security, can you get more time or better conditions? (kinda like a "half secured" loan)

The logistics of margin calls are pretty nasty.  No, income doesn't get any dispensation (at least in my experience).

My experience was:
- Margin call 1.  I was overseas.  They called me (literally a phone call), told me I was in margin and needed proof of how I was going to get out of margin then and there.  I didn't have any spare liquidity, so it was a case of telling them which stock I was going to liquidate.  In practice, I placed some sell orders over the web while on the phone to them.
Margin call 2.  I didn't actually get the call this time, but I was watching the account through the day. I could see that I was going to get a margin call at end of day.  I chose what to sell and sold it intra-day.  That was a day with a ~5% dip on the local market, with most of it bouncing back by the end of the day.  That hurt.

I never intended to get close to having a margin call.  But get there I did, more than once, about 18 months apart. 

As stated earlier, I stuck with it and it worked out.  However, if I had a time machine, I would go back and advise my younger self not to do it.  My younger self wouldn't have listened!

If you do it, haggle hard on the interest rates (my current rates are about two thirds of the advertised rates, and every percentage point you drop the rate is an extra percentage point you keep), and stick with what you think is an overly conservative gearing ratio.   



lordmetroid

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Re: Does anyone use margin?
« Reply #17 on: January 15, 2017, 05:18:19 PM »
I leverage my index fund initial purchase capital by 1.5x for an interest of 2%. I am not adding more leverage as the market goes higher. That way my leverage quota gets lower as the capital gains starts piling on and the risk becomes lower with time.

I do not passively buy and hold, I am position trend trader. Holding my position for weeks or even years if the trend is positive. I am not bothered by getting a full market return. I rather not loose too much of my gains and I never want to experience a 50% drawdown. If my initial bet turns out to be wrong, I get out as soon as possible, I have sworn to never loose my capital I have worked and toiled so hard for as an employee.
« Last Edit: January 15, 2017, 05:28:27 PM by lordmetroid »

Retire-Canada

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Re: Does anyone use margin?
« Reply #18 on: January 15, 2017, 08:21:53 PM »
I have sworn to never loose my capital I have worked and toiled so hard for as an employee.

Even in a rare 50% market crash you only lose capital if you sell. As long as you hold your shares they will recover. Looking at a lower brokerage account is only a virtual paper loss.

Goldielocks

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Re: Does anyone use margin?
« Reply #19 on: January 15, 2017, 08:40:27 PM »
I used to use margin to facilitate buys and sells.  eg., where I wanted to move out of one position and into another, I could place limit orders on the buys (using margin) and limit orders on the sells, and not be worried about the order or for one to clear in time and watching the price all day.

Obviously, when you start to do this, you end up carrying the margin for a few months in the worst case, and we did get a margin call once  (as I bought on the drop, but the whole market kept dropping and the other one did not sell).   A bit stressful and I covered it.

One difference between now and then is that I have less interest in the high level of market research now compared to then, and index ETF funds are much more widespread, so I don't do the "buy 10-20 stocks and hold" to diversify, but uses ETFs now....

gerardc

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Re: Does anyone use margin?
« Reply #20 on: January 15, 2017, 09:18:25 PM »

The logistics of margin calls are pretty nasty.  No, income doesn't get any dispensation (at least in my experience).

My experience was:

What exactly triggers the margin call? Say you own 1m, borrow 100k, do you get a call when your total balance gets to 100k? Or is there some other safety factor in the calculation?

bigchrisb

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Re: Does anyone use margin?
« Reply #21 on: January 15, 2017, 09:35:35 PM »
I'm in Australia, so I can only comment on how it works here.  I suspect the regulations are a little different in the US.

How it works here is that the lender will assign a loan to value ratio for each security.  The large cap stocks are up around 80%, down to 0% for small cap rubbish.  Things like Vanguard ETFs sit around 75%.

They then calculate the loan to value ratio of your portfolio.  For arguments sake, lets say you only owned 2 securities, $100k of an 80% stock, and $100k of a 70% stock.  They would work out the portfolio limit of the stocks as $80k+70k = $150k.  If your loan is less than this, no problem.  If it is greater than this, they say you are in "buffer", which with my lender is 5%.  That means I cannot withdraw money, or buy more stock, but they won't force a sale.  Once my loan is 105% of the security value ($157.5k in this case), then they do a margin call.

The thing that really got me into trouble was that they were reducing the security values at the same time as stocks were falling. 

So, lets say you had a $100k loan against this theoretical portfolio of $200k.  Both then fall 30%.  Your portfolio would be "worth" $140k, with a $100k loan, so your equity falls from $100k to $40k.

However, the security value would fall from $150k to $105k.  So I'm now using most of the available headroom in the loan.  What happened to me was security values also fell (say 80% dropped to 70%, and 70% dropped to 50%).  The security value has now fallen to $84k, or $88k with the buffer.  I need to clear the whole amount, back to 0% buffer, i.e. find $16k. 

If done by selling the 70% LTV stock, they would then liquidate $53k of the stock, leaving me with 17k of stock a and $70k of stock b and a remaining margin loan of $47k.  A pretty hard time to recover from.

Its the mechanics of how margin calls work, and the damage this does to your portfolio in wipeout scenarios that makes me lose sleep at night about it.

(In full disclosure, I still have a margin loan of approx $500k in value, against a $2.14M portfolio.  I'm trying to wind this down over time)
 

ChpBstrd

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Re: Does anyone use margin?
« Reply #22 on: January 15, 2017, 09:46:27 PM »
Why go through all this trouble and risk? Just find a closed-end fund that buys the index and uses leverage to boost returns. I'm certain they can borrow and execute more cheaply at an industrial scale than you can at an individual scale, and diversify better too. CEF's can be found with up to 33% leverage!

https://www.cefconnect.com/closed-end-funds-screener

That said, there's no reason to pay off a mortgage at ~4% when markets will likely do better. In fact, if you own your home, a HELOC might make sense depending on expenses. But a leveraged fund is probably borrowing at half that cost.

FWIW, TD Ameritrade charges 9% for margin loans. No. Thank. You.

Kalergie

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Re: Does anyone use margin?
« Reply #23 on: January 15, 2017, 11:03:20 PM »
Interactive broker won't contact you at all in case of a margin call, as far as I know. They automatically liquidate at will once you reach the breaking point. That's  how they can offer such low rates.

HappyDude

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Re: Does anyone use margin?
« Reply #24 on: January 16, 2017, 01:25:27 AM »
I could have loaded up more at the bottom of the GFC if I hadn't been investing on margin.  As it was, all my spare savings were going in to propping up my margin loans, as opposed to buying bargain stocks.

bigchrisb touches on something that is rarely mentioned about margin loans - they can have the opposite effect to dollar-cost-averaging by encouraging you to buy more when the prices are high and less when the prices are low.

For example, say you invest $100k of your money and a $100k loan in an index fund and the index was at 1000pts
If the index goes up 50% to 1500pts your investment will become $300k ($200k equity and $100k loan)
If you want to keep the same 50% LVR, you will borrow another $100k (to get $200k equity and $200k loan)

If the market subsequently dropped 33% (back from 1500 to 100), the $400k total would drop to $266k ($66k equity and $200k loan)

The market is back to where it was originally but you have lost money. I have used large moves in the market here but the same effect occurs with 5% and 10% moves.

If you are dollar-cost-averaging by adding a certain amount each month, you are unlikely to be buying in the dips as your contributions will go towards pushing the LVR back to the desired level.

I ran the numbers on segments of the past 15 years of the Australian markets and found that having a margin loan and keeping it at a fixed LVR will eat away your capital if the market is going sideways (and this effect is before taking interest on the loan into account). It is only when it is going up that you get the benefit.

BTW, I still have a margin loan but am working on my strategy of how to use it.


Goldielocks

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Re: Does anyone use margin?
« Reply #25 on: January 16, 2017, 02:19:41 AM »

The logistics of margin calls are pretty nasty.  No, income doesn't get any dispensation (at least in my experience).

My experience was:

What exactly triggers the margin call? Say you own 1m, borrow 100k, do you get a call when your total balance gets to 100k? Or is there some other safety factor in the calculation?

Usually you need a percentage of equity in your investment accounts for the margin.

Think of it like a HELOC....  the bank will give you a HELOC up to 50% value in your house.... Except that here, the value of your house is constantly evaluated, and if your HELOC (aka margin) is 100k, and your house equity WAS 215k, but drops to 195k, you will get a "Margin call", forcing you to add cash or sell the shares to cover it back to 50%... shares which are already down in price, that you don't want to sell at a loss....

Margin can be a valuable tool, and needs to be managed conservatively.


Oh, and like the others said, sometimes the margin calls (selling your position) are automatic and don't give you a chance to top up with cash.
« Last Edit: January 16, 2017, 02:22:50 AM by Goldielocks »

Kalergie

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Re: Does anyone use margin?
« Reply #26 on: January 16, 2017, 10:53:39 AM »
This is a good discussion.

@Happy dude: thanks for running the numbers from your country. That's kind of what I was looking for.

I wonder if there's a cfiresim type calculator that I could use to run multiple strings of years (i.e. 1950-1980, 1951-1981...) with margin. Then see how many times I would have come out ahead using margin. Then make the decision.

MrSpendy

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Re: Does anyone use margin?
« Reply #27 on: January 16, 2017, 11:32:35 AM »
I have used margin extensively and plan to do so on a more systematic basis going forward.

I use portfolio margin at IB https://www.interactivebrokers.com/en/index.php?f=4745&p=overview4

It costs about 2%. An additional necessary cost in my opinion is 1-2% on hedging costs to prevent a greater than 30% drawdown (protective puts).

Portfolio margin is better than reg T, because it gives you credit for direct hedges. If you own $100K of stocks, but hedge it such that it can only lose 30%, then portfolio margin will say "this person can only lose $30K, so we'll allow him to borrow up to $70K". It doesn't work precisely like that, but the bottom line is that it gives you credit for offsetting postions and recognized that a portfolio with hedged berkshire hathaway and google or the s&p 500 or investment grade bonds or whatever is less risky to them than a portfolio of illiquid small caps (which you can't lever).

I hedge 2 years out. I am a heretic and don't index and am unlikely to ever do so.

I use portfolio margin to invest 100% of my paycheck. That is every single dollar of salary goes into the portfolio, either through tax advantaged accounts or taxable. Expenses are paid with a monthly margin loan. I intend to use bonus (which can be 70% of salary and will go up over time), increases in salary, and investment gains to keep the leverage ratio low with time (if the market does nothing and I make no bonus, it goes up by 2% a month, 3% a month on the stressed NAV if the portfolio tanked 30% tomorrow). Also spouse is in grad school so her income should go up by 2-3x and this arrangement will become more sustainable.

I will stop if/when I hit leverage of 35%, which is equivalent to 50% of stressed asset level assets. 

The portfolio has 50 months of expenses and  I have 7 months expenses in reserve (i-bonds) and 5 months in roth contributions. If the market tanks and I need to stop making withdrawals, I can do so for a bout a year. I have no other debt.

i basically view our household as a financial company. The cost of funds = interest and hedging costs, and revenue = investment gains + salary. We earn the spread between those two over time.

I think this is only feasible with a decent starting balance sheet and income statement. And even then I probably wouldn't recommend it to most. It (may) work for me given how I've set things up. I do this in order to maximize all tax advantaged accounts while still living a pretty expensive lifestyle (hence the moniker). My system would really work and escape velocity would greatly accelerate if I could cut down expenses (or when my bonus which i use to de-lever becomes greater than 100%+ of  an increased salary, which is probably about 5 years away).







gerardc

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Re: Does anyone use margin?
« Reply #28 on: January 16, 2017, 01:33:25 PM »
I could have loaded up more at the bottom of the GFC if I hadn't been investing on margin.  As it was, all my spare savings were going in to propping up my margin loans, as opposed to buying bargain stocks.

bigchrisb touches on something that is rarely mentioned about margin loans - they can have the opposite effect to dollar-cost-averaging by encouraging you to buy more when the prices are high and less when the prices are low.

For example, say you invest $100k of your money and a $100k loan in an index fund and the index was at 1000pts
If the index goes up 50% to 1500pts your investment will become $300k ($200k equity and $100k loan)
If you want to keep the same 50% LVR, you will borrow another $100k (to get $200k equity and $200k loan)

If the market subsequently dropped 33% (back from 1500 to 100), the $400k total would drop to $266k ($66k equity and $200k loan)

The market is back to where it was originally but you have lost money. I have used large moves in the market here but the same effect occurs with 5% and 10% moves.

If you are dollar-cost-averaging by adding a certain amount each month, you are unlikely to be buying in the dips as your contributions will go towards pushing the LVR back to the desired level.

I ran the numbers on segments of the past 15 years of the Australian markets and found that having a margin loan and keeping it at a fixed LVR will eat away your capital if the market is going sideways (and this effect is before taking interest on the loan into account). It is only when it is going up that you get the benefit.

BTW, I still have a margin loan but am working on my strategy of how to use it.

That's true if you strive to keep your LVR constant as the market moves, because it would make you sell low and buy high (i.e. double down on highs and pull out on lows). It's the same phenomenon that causes decay in daily leveraged ETFs, that reset/rebalance their LVR daily, in presence of high volatility!*

The cure for that is to keep your loans constant over a long period. That will automatically increase your LVR in dips and decrease it in highs. You can still dollar cost average your paychecks without changing your loans. You'll be free of decay then.

* It also significantly decreases the probability of margin calls if you rebalance your LVR often enough. There's a fundamental relationship between margin call probability and decay in leveraged funds.
« Last Edit: January 16, 2017, 01:36:40 PM by gerardc »

Kalergie

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Re: Does anyone use margin?
« Reply #29 on: January 16, 2017, 03:03:57 PM »

You can still dollar cost average your paychecks without changing your loans.
Do you mean, keep investing your paychecks instead of paying back the margin loan over time?

There's a fundamental relationship between margin call probability and decay in leveraged funds.
So you mean, if one keeps their LVR at a constant % it increases decay. If one keeps the absolute amount constant, it increases probability of a margin call? Did I get that correctly?




misterhorsey

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Re: Does anyone use margin?
« Reply #30 on: January 16, 2017, 04:52:38 PM »
The thing that really got me into trouble was that they were reducing the security values at the same time as stocks were falling. 

Hey BigChris, I'm curious whether you anticipated that this might happen when you first took out your loan?  Did you go into with eyes open, or was it something that you didn't think would happen and so didn't account for it?

Glad you got out of it okay of course. Just curious about your mindset going into it.

I like to try and think about worst case scenarios when I think about an investment.  So although I've thought about taking out a margin loan, whenever I create a scenario that stocks valuations might fall by 50%, for example, I end up making the LVR really conservative to guard against having to liquidate when the valuations are low.  This results in the gearing being so low that the return is somewhat marginal it doesn't really seem to justify taking on the risk.

I've come to the conclusion for now that margin and index investing aren't really that compatible.

Different story if you've stumbled on a sure bet and you are willing to take out a loan to bet on it. Or if there was a broadbased market low, and somehow you had your crystal ball and you knew for sure, or willing to make a bet, that it was in fact the low. Then margin would be sweet.

gerardc

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Re: Does anyone use margin?
« Reply #31 on: January 16, 2017, 04:59:14 PM »

You can still dollar cost average your paychecks without changing your loans.
Do you mean, keep investing your paychecks instead of paying back the margin loan over time?

Yep, always keeping the loan constant (not LVR). You can rebalance the LVR (get more loans) after say 1 year only if the market is up

There's a fundamental relationship between margin call probability and decay in leveraged funds.
So you mean, if one keeps their LVR at a constant % it increases decay. If one keeps the absolute amount constant, it increases probability of a margin call? Did I get that correctly?

Yes. Basically it depends on the frequency at which you reset your LVR:
- Infinite (i.e. constant LVR): super high decay, 0 chance of margin call
- Daily (e.g. leveraged ETFs): high decay, low chance of margin call
- Yearly: medium decay, high chance of margin call
- Never (i.e. constant loan amount): no decay, highest chance of margin call

The actual numbers also depend on your chosen LVR and volatility of the fund.
« Last Edit: January 16, 2017, 05:02:50 PM by gerardc »

Kalergie

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Re: Does anyone use margin?
« Reply #32 on: January 17, 2017, 04:14:36 AM »
I am not a firm believer of Dollar Cost Averaging although it has its merit. However, it is more likely that the market is higher tomorrow than today. In other words, if I got a big bonus or inheritance, I'd fully invest the lump-sum today, not bit by bit every month.

Based on that and what gerardc listed, it sounds to me that keeping a constant loan amount of reasonable size is the best way forward. The hope is just that one does not invest a day before a major market crash. But even without margin, all us lump-sum investors have that problem.

EDIT: I'd maybe consider doing the above once my portfolio is large enough and the "headache" is worth the gain. I am thinking 750K equity, 75K margin. I am about 2 years away from that.
« Last Edit: January 17, 2017, 04:19:13 AM by Kalergie »

AdrianC

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Re: Does anyone use margin?
« Reply #33 on: January 17, 2017, 06:02:18 AM »
EDIT: I'd maybe consider doing the above once my portfolio is large enough and the "headache" is worth the gain. I am thinking 750K equity, 75K margin. I am about 2 years away from that.

So, if you make 2% over margin cost on your $75k, that's a 0.2% improvement in return on your portfolio.

I guess only you know if a possible 0.2% improvement is worth your time...

daverobev

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Re: Does anyone use margin?
« Reply #34 on: January 17, 2017, 06:44:35 AM »
EDIT: I'd maybe consider doing the above once my portfolio is large enough and the "headache" is worth the gain. I am thinking 750K equity, 75K margin. I am about 2 years away from that.

So, if you make 2% over margin cost on your $75k, that's a 0.2% improvement in return on your portfolio.

I guess only you know if a possible 0.2% improvement is worth your time...

Interest is generally a tax deductible expense; 2% is probably conservative; 2% of $75k is $1500. I'll take $1500 for relatively little risk.

acroy

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Re: Does anyone use margin?
« Reply #35 on: January 17, 2017, 06:53:00 AM »
I'd not monkey with margin - the risk/reward is unattractive for me, as is managing the complexity.

However, anyone carrying a mortgage is in effect using margin. In my case the bank owns around $125k of the house, for which i'm paying 4% (iirc); while I use the $125k to invest.

Kalergie

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Re: Does anyone use margin?
« Reply #36 on: January 17, 2017, 08:58:14 AM »

So, if you make 2% over margin cost on your $75k, that's a 0.2% improvement in return on your portfolio.

I guess only you know if a possible 0.2% improvement is worth your time...

I guess not. But consider this. In this community, we put a lot of emphasis on an index fund's cost (i.e. MER). Now imagine vanguard offered to reduce a fund's MER from .25% to .05%. I think we'd all be pretty happy about that. :)

lostamonkey

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Re: Does anyone use margin?
« Reply #37 on: January 17, 2017, 09:17:07 AM »
Question for people who use margin: Do you still invest in bonds which have a lower return than the interest rate you are paying on your margin loan? If so, why?

AdrianC

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Re: Does anyone use margin?
« Reply #38 on: January 17, 2017, 10:31:25 AM »
Interest is generally a tax deductible expense; 2% is probably conservative; 2% of $75k is $1500. I'll take $1500 for relatively little risk.

Bolding mine.

With all this talk of leverage I'm starting to think we might be close to a market top. :-)
« Last Edit: January 17, 2017, 10:33:16 AM by AdrianC »

ChpBstrd

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Re: Does anyone use margin?
« Reply #39 on: January 17, 2017, 11:48:35 AM »
Interest is generally a tax deductible expense; 2% is probably conservative; 2% of $75k is $1500. I'll take $1500 for relatively little risk.

Bolding mine.

With all this talk of leverage I'm starting to think we might be close to a market top. :-)

I think the same thing when I hear increased talk about dividends. I remember that kind of talk all the way down in 2008. It's like we all know, subconciously, that stocks can't keep rising at double-digit rates forever, so we rationalize about the 3% yield we will at least get.

Goldielocks

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Re: Does anyone use margin?
« Reply #40 on: January 17, 2017, 12:22:44 PM »
This is a good discussion.

@Happy dude: thanks for running the numbers from your country. That's kind of what I was looking for.

I wonder if there's a cfiresim type calculator that I could use to run multiple strings of years (i.e. 1950-1980, 1951-1981...) with margin. Then see how many times I would have come out ahead using margin. Then make the decision.

Margin just amplifies stock returns, with a smallish amount of drag for the interest cost.   So whatever cfiresim says the return is, if you adjust it down by the interest each year, there you go.

This is why so many on here keep a large mortgage and invest in stocks or ETFs.  History shows that it is a better deal than paying down the mortgage, and is a form of do-it-yourself margin.

Kalergie

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Re: Does anyone use margin?
« Reply #41 on: January 17, 2017, 01:56:15 PM »

Margin just amplifies stock returns, with a smallish amount of drag for the interest cost.   So whatever cfiresim says the return is, if you adjust it down by the interest each year, there you go.

This is why so many on here keep a large mortgage and invest in stocks or ETFs.  History shows that it is a better deal than paying down the mortgage, and is a form of do-it-yourself margin.

Got it. I think this only applies for lump-sum margin.
If you keep the LVR constant, the "decay" would make a huge difference.

gerardc

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Re: Does anyone use margin?
« Reply #42 on: January 17, 2017, 11:55:30 PM »
This is why so many on here keep a large mortgage and invest in stocks or ETFs.  History shows that it is a better deal than paying down the mortgage, and is a form of do-it-yourself margin.

I've seen this argument that mortgage ~ DIY margin a few times, but I don't think that's completely correct. With a mortgage, you can only invest your own money, and the loan is secured by the asset (house). There's no chance of margin call, which changes everything because you can bear a down market indefinitely. I.e. if your house market value crashes, and your invested "loan" plummets too, they won't be able to force you to sell even if their "secured" loan isn't so secure anymore. Or will they?

Goldielocks

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Re: Does anyone use margin?
« Reply #43 on: January 18, 2017, 12:07:40 AM »
This is why so many on here keep a large mortgage and invest in stocks or ETFs.  History shows that it is a better deal than paying down the mortgage, and is a form of do-it-yourself margin.

I've seen this argument that mortgage ~ DIY margin a few times, but I don't think that's completely correct. With a mortgage, you can only invest your own money, and the loan is secured by the asset (house). There's no chance of margin call, which changes everything because you can bear a down market indefinitely. I.e. if your house market value crashes, and your invested "loan" plummets too, they won't be able to force you to sell even if their "secured" loan isn't so secure anymore. Or will they?

Yes, you are right, of course. I oversimplified... But Heloc's can be called, too.  Just rarely (like in 2009) but they are somewhat unlinked from the stockmarket performance as they are based on real estate.

Retire-Canada

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Re: Does anyone use margin?
« Reply #44 on: January 18, 2017, 06:57:40 AM »
Yes, you are right, of course. I oversimplified... But Heloc's can be called, too.  Just rarely (like in 2009) but they are somewhat unlinked from the stockmarket performance as they are based on real estate.

I still waiting for a first person account of  Heloc that was called in 2000/09. If anyone actually had one that was called post about.

Kalergie

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Re: Does anyone use margin?
« Reply #45 on: January 18, 2017, 11:11:16 AM »
How is a margin loan handled in the case of a flash crash? If the market tanks for a few secs/minutes like in 2010 (https://en.wikipedia.org/wiki/2010_Flash_Crash). Would my margin loan be called?

talltexan

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Re: Does anyone use margin?
« Reply #46 on: January 18, 2017, 03:25:24 PM »
I'm surprised to see no one challenging Mrspendy's system in any serious way...it sounds as though it depends on very sophisticated trading and may be beyond the reach of someone with a modest investing expertise.

Financial.Velociraptor

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Re: Does anyone use margin?
« Reply #47 on: January 18, 2017, 07:01:35 PM »
I have four short positions open (GM, CAR, HTZ, CNQ) so technically that is a margin loan.

Paul der Krake

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Re: Does anyone use margin?
« Reply #48 on: January 18, 2017, 07:12:30 PM »
Interactive broker won't contact you at all in case of a margin call, as far as I know. They automatically liquidate at will once you reach the breaking point. That's  how they can offer such low rates.
Do you have documented incidents of this happening, or can point to the terms & conditions where they state this?

If true, that would be extremely concerning. Flash crashes happen all the time.

MrSpendy

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Re: Does anyone use margin?
« Reply #49 on: January 18, 2017, 07:22:10 PM »
Interactive broker won't contact you at all in case of a margin call, as far as I know. They automatically liquidate at will once you reach the breaking point. That's  how they can offer such low rates.
Do you have documented incidents of this happening, or can point to the terms & conditions where they state this?

If true, that would be extremely concerning. Flash crashes happen all the time.

This is 100% correct; they make it very clear that they have total control to liquidate at will.