Having never dealt with Margin Lending, I was just wondering if anyone out there had a brief explanation of how it works.
State Manager
Wholesale Mortgage Lender that deals only with brokers.
20 years in Finance Industry
You get approval for a maximum margin loan amount, say $20,000. An interest rate will be attached to amounts drawn down – say around 8%.
Lenders will allocate a gearing percentage to a range of stocks according to their risk weightings. For example, CBA might be 80%.
Let’s say you decide to buy 500 CBA shares at $35 each, the total purchase price excluding fees would be $17,500. You don’t have this much or don’t want to put this much into the purchase so you decide to use your margin loan to the maximum allowed.
CBA is weighted at 80% so you need to put in $3,500 of your own money (and pay the fees). The balance, $14,000, will be drawn from your margin loan and will cost you 8% per annum. You will still have a $6,000 balance in the margin loan account for future purchases.
If the share price increases, the LVR decreases allowing you to buy more. In some margin loans, your balance will also be increased. If the prices decrease, the LVR increases. As you have available funds in your margin loan, you might not be required to do anything but you will often experience a margin call.
A margin call is where the lender will ask you to put in more money to bring the LVR back down to 80%. They usually hold a direct debit authority for the interest payments so they can also just draw the margin call funds from your transaction account if required.
The interest on the margin loan is tax deductible but you will need to have dividends or share price growth that exceed the cost of funds by an acceptable margin to make this investment worthwhile.
Robert Bou-Hamdan
Mortgage AdviserHey Rob, Thanks for the explanation.
Another question. How do Margin Lenders work out what shares are okay to lend against. What if somebody had $3mil worth of shares in a company thats share price is around the 0.60c mark would lenders look at this even with a really low lvr (20% mark).
Thanks
State Manager
Wholesale Mortgage Lender that deals only with brokers.
20 years in Finance Industry
It has nothing to do with volume and price. The margin lenders assess the actual companies and assign a risk-weighting to them. These often change.
You will find that most available shares are blue-chips or large organisations. Have a look at Commonwealth Securities for a good explanation with examples…
http://www.comsec.com.au/PublicAccess/default.asp?Page=MLD
A list of their acceptable shares can be viewed by running your mouse over ‘Accepted Security’ and then clicking ‘Accepted Shares’.
Robert Bou-Hamdan
Mortgage Adviser
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