What is Margin Lending?

Margin lending or a margin loan allows you to borrow money against your current share portfolio to reinvest in equities and managed funds. Commonly referred to as gearing, a margin loan can significantly add to your ability to grow your portfolio by increasing your purchasing power.

How does it work?

Margin lending allows you to borrow additional funds against a wide range of approved shares as security, providing you with the opportunity to invest more money and diversify your portfolio, if required.

What does a margin loan provide?

  • Flexibility - A margin loan can provide the flexibility to take advantage of opportunities as they arise, without the need to find further funds.
  • Tax benefit – The ability to claim the interest paid on the margin loan as tax deductable.
  • Diversification – By utilising a margin loan it is possible to diversify your portfolio and lower the risk profile. For example if John held $150,000 worth of BHP, he could borrow at least another $75,000 to invest in other shares and therefore spread his risk and also increases the opportunity to grow his portfolio.
  • Growth – based on the theory that over time your investment will grow in excess of the cost of borrowing and as a result will provide a profitable return.

What are the risks?

A margin loan provides you with the opportunity to magnify your profits; however it may also have the opposite effect, of increasing your exposure to potential losses.

What is a margin call?

A margin call is when your portfolio drops in value and your overall borrowing, exceeds the amount agreed. The value of your share portfolio always needs to be greater than the amount of money that has been borrowed.

margin call is a safety measure designed to protect you from losing all of your equity and owing more than you borrowed from the lender.

Margin call options

Upon receiving a margin call, the most common options available to restore the required level of equity to your account are.

  • Sell shares in your portfolio to reduce the amount of money borrowed.
  • Allocate more cash into the account, lowering the debt level.
  • Purchase more shares thus further increasing your borrowing capacity.

Apply the following tips to help reduce the level of risk your margin portfolio carries.

  • Diversify your share portfolio to reduce the risk of being exposed to failures in one particular sector. For example, share holdings in Resources, Financials, Industrials and Consumer discretionary staples companies provide a good level of diversification and reduces the risk of margin call should one particular sector suffer heavy losses.
  • Leave a buffer between the percentage of funds used and the maximum gearing allowed. For example if you have a maximum gearing of 80% allowed, borrowing 40 – 50% of the maximum will reduce the risk of going into margin call from small price fluctuations.

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