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The multiplier effect
Your margin loan account has funds available if the loan
balance (the amount you have borrowed) is less than the loan limit (the amount
you can borrow). The multiplier effect means you can borrow up to four times
the funds that were originally available (depending on the lending ratio
assigned to the new investments).
The multiplier effect of geared investing
| Rod's ungeared portfolio | Rod's geared portfolio | |
|---|---|---|
|
Value |
$40,000 |
$160,000 |
|
Loan limit (at 75%) |
$30,000 |
$120,000 |
|
Loan balance |
$0 |
$120,000 |
|
Funds available |
$30,000 |
$0 |
Rod's ungeared portfolio
Rod has a share portfolio with a market value of $40,000.
He decides to take out a margin loan to increase his portfolio size. For the
purpose of this example, Rod can borrow up to 75% of the value of his existing
portfolio - $30,000 as available funds for additional investing.
Rod's geared portfolio
If Rod invests into approved securities with a lending
ratio of 75%, he needs to provide 25% of the purchase. By using his available
funds of $30,000 to provide 25% of the purchase, he can borrow an additional
$90,000 and acquire further investments up to a value of $120,000, taking the
total value of his portfolio up to $160,000.
The downside to the multiplier effect
Gearing can magnify both the gains and the losses in an
investment portfolio. In Rod's case, he will be paying interest on $120,000
($30,000 + $90,000). Find out what is the
risk.
|
Rod's original portfolio
|
Geared investing
|
| Find out more about BT's margin lending. |
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