Hey All,
I recently learned about a financial product called a Pledged Asset Mortgage, and interestingly enough I wasn't able to find any discussions on the MMM forums about them or much of anywhere else. Here's Merrill Lynch's info page about this product:
http://www.merrillhomeloans.com/mlhl/pages/100-percent-financing.aspxAnd here's the short and skinny:
Instead of using a 20% cash down payment + house as collateral for the loan, you maintain a 40% pledged asset brokerage account + house to secure the loan. The value of the assets in the account must not drop below 33% of the purchase price.
For a $100k mortgage, you need to open a pledged brokerage account with $40k in assets that must remain above a set value until the mortgage is paid off or your equity is sufficiently high.
Of course, there's always a catch. Here's the pro's and con's:
Pros (Add "Assuming all goes well" to the start of most bullets ;) )- Reduce the opportunity cost of buying - save for FIRE and a house concurrently and keep more money in the market. This saves you roughly $82.4k inflation adjusted dollars on a 30yr, $100k, 4% loan (calculations below!)
- Assuming asset liquidation for a traditional mortgage, no capital gains tax triggered
- Assuming no asset liquidation for a traditional mortgage, time between desire to purchase and purchasing can be much shorter, since you don't need to then save up a down payment
Cons- If the pledged account drops in value, you may need to pledge more assets to the account
- If the account drops below 33% of the starting mortgage amount, the bank may initiate a collateral call and sell any pledged assets at any time without consent. You can't access these sold funds until you pay off, refinance, default, use the funds to pay down the mortgage or reach high enough home equity to close the pledged account
- If you default, you could lose both the assets and the house
- No idea what funds you can invest in within the pledge account. Expense ratios could be higher.
Alternatively you can use a pledged asset account for less than 100% financing with a small down payment. PMI is still not required and you can reduce the chances of failing to meet a margin call. For example, you might use a 10% down payment with a 20% asset pledge.
My impression is that it sounds great if things go well, but could be pretty awful in a market downturn. If I were to get such a loan I would want a much larger portion of the pledge account in bonds than in the rest of my portfolio to reduce the risk of needing to add more funds or dipping below the minimum 33% maintenance amount.
Also, it doesn't sound that significantly different than buying a home with a down payment, then using a HELOC for stock market leverage.
Has anyone here used this type of mortgage? What's your take? To me it sounds like a risky but rewarding strategy. But with a good ratio of held taxable to pledged assets, and no plans to touch those assets for several years anyway, the risk can be reduced.
And here's my saved opportunity cost calculation:Assumptions:
- 2% mortgage interest (inflation adjusted -2%)
- 5% investment returns (inflation adjusted + slightly conservative to account for higher bond allocation)
Opportunity cost avoided = investment return of $20k invested @ 5% - interest cost of $20k @ 2%
OCA = 89k - 6.6k = $82.4k
Of course allocation and market returns means a large range of possible values.
See attached screenshots for calculator screenshots.