January 23, 2020 05:00:02
Talking about the property market is fast becoming as unpalatable as discussing politics or religion at the dinner table.
That is because, despite a mini housing market correction over the past couple of years, a recent revival means buying a home in some of Australia’s capital cities remains out of reach for many.
According to the latest annual Demographia International Housing Affordability Study, Sydney is the third most expensive city in the eight countries studied, while Melbourne is not far behind.
Record-low interest rates and rising property prices have created a dream run for homeowners, but those trying to get onto the property ladder, perhaps by saving up for a deposit through a bank account, do not stand a chance.
So that is the end of the story, right? Actually no.
It turns out there is one way to supercharge your savings. It is called margin lending.
Margin lending can supercharge an investment
Put simply, margin lending involves borrowing money (taking out a personal loan) and using that cash to buy shares.
The harsh reality is that even with $1,000 invested in the share market, it will take you a very long time to turn that into thousands of dollars, let alone tens or hundreds of thousands of dollars.
However, if you borrowed $50,000, and invested most of that money in shares, the bigger starting investment could mean larger returns — potentially reaching hundreds of thousands of dollars within a few years.
It is a financial concept known as leveraging. That is, borrowing money to make more money than you otherwise would on an investment.
When it is applied to buying shares, it is known as margin lending.
More Australians are taking on margin loans
Research from the Reserve Bank shows there has been a big jump in the number of Australians doing this.
Figures from the Commonwealth Bank show, in the three months to September, the amount of money tied up in margin lending shot up from roughly $11 billion — where it had been for several years — to $17 billion.
That is an increase of more than 50 per cent.
It is easy to understand why someone would choose to take out a margin loan right now: interest rates have never been this low (making a personal loan relatively cheap) and saving for a home, retirement or any other long-term goal using bank deposits has become an agonisingly slow process.
But there is another reason why margin lending is back in vogue: the stock market itself is on an absolute tear.
The benchmark S&P 500 index — which tracks the value of a broad range of stocks on the New York Stock Exchange — is now very close to reaching a point that would signal the longest and biggest ever run-up in stock prices without a crash (or a fall of more than 20 per cent).
The Australian share market is also pushing records highs on a weekly basis. The ASX 200 closed above 7,000 index points for the first time just last week.
In many cases, low interest rates are driving stocks higher. That is partly because it is easier for firms to borrow to invest and grow their businesses, but also because more savers are turning to the stock market in a desperate attempt to boost, or even just maintain, their wealth.
Bull run could turn into a bear market
With reward comes risk, though.
You can see a dangerous feedback loop developing here: low interest rates are pushing share markets higher, and those higher share markets are luring in more people to borrow more money at those low rates to buy more shares.
A rise in interest rates, even just a small one, could shatter the positive loop and turn it into a downward spiral.
That is one reason analysts warn global share markets are rising too high, too fast.
There are other major risks too, like a deterioration in global economic growth perhaps caused by climate change; an escalation in the US-China trade war, or conflict in the Middle East to name just a few.
Here at home, there is still the persistent problem of low levels of both business and consumer confidence. The latest read from Westpac on consumer confidence shows shoppers are still reluctant to part with their cash.
“This low level of confidence is consistent with the generally lacklustre reports on consumer spending,” Westpac chief economist Bill Evans recently wrote.
Economists say the biggest risk to rising share markets is the economy, and the risks to economic growth remain ever present.
Margin lending can go horribly wrong
If economic growth slows significantly and business profits are further squeezed, share prices will fall.
In a margin loan, if you borrow $50,000, for example, you might buy $30,000 worth of shares and have the rest sitting as cash, providing a buffer.
However, if the value of your shares falls below a pre-determined level, your stockbroker will ask you to provide more cash. That is known as a margin call.
In an extreme example, if your shares became worthless, you would obviously need to stump up $30,000.
In that case, you have used up all your cash, own worthless shares and still owe the bank $50,000.
Fast track to a home
Many Australians have successfully used margin lending to turbocharge their savings.
And the top economist at Australia’s biggest home loan provider says, if you’ve got the investment experience and you can stomach the risks, it is likely the quickest way to build up a home deposit.
“It’s certainly a way of increasing your savings,” the CBA’s chief economist Michael Blythe said.
“Leverage improves your rate of return and if you want to use that and if you want to use that to save up for your home loan deposit, then clearly that can help speed up the process there.
“But I stress again, you need to think about the fact that shares can go down just as easily as they can go up.”
Many Australians throwing caution to the wind
Independent financial analyst Andrew Page used to help run a margin lending department at a major Australian bank.
He said, based on his experience, most clients’ experience with margin lending was not a positive one.
He said that was because most clients took on too much leverage or debt. They borrowed too much.
In recent months the amount of money being thrown at this highly risky investment vehicle has spiked.
Assuming market conditions stay as they are, it may put some Australians in a home faster than they dreamed.
However it appears to highlight how desperate some Australians have become to obtain that dream, or just to simply get ahead.