Borrowing to invest, also called leveraging or margin investing, means using someone else’s money to try to grow your own. While it can increase your potential returns, it also increases your risk. If your investment doesn’t perform as expected, you could lose more than you invested.
Leveraging involves taking out a loan to buy investments. This could be:
A loan from a bank or lending institution
A margin loan from a brokerage firm (buying on margin)
A line of credit secured by your home or other assets
The idea is simple: borrow money, invest it, and hope the investment earns more than the interest you’re paying on the loan. But if the investment drops in value, you still owe the loan, and may need to pay more out of pocket.
Example:
If you use your home equity to borrow money and the investment fails, you may have to sell your home to repay the loan. Or if your investment is used as collateral and loses value, you might be asked to provide more collateral or repay part of the loan early.
Unlike traditional investing, leveraging adds debt to your financial picture. That means you’re responsible for loan payments, whether your investment goes up or down.
You’ll need to:
Be comfortable taking risk with your investments and taking on more debt. Include your other debts and whether you can afford to pay them all.
Be able to afford to lose what you put up for collateral for the loan
Understand the real cost of borrowing, including interest and fees and any tax consequences
Have a stable income and cash flow available to repay the loan or to cover losses if your investment drops
Have a backup plan in case things don’t go as expected
If your investment loses money, you may be required to add more funds to your account or provide additional collateral. This can put your savings, home, or other assets at risk.
Borrowing to invest is risky. Here’s what to watch out for:
Market risk: If your investment drops in value, you still owe the loan and may lose more than you invested.
Interest costs: If your returns are lower than the interest rate, you’ll lose money because you’ll pay more in interest costs than you earn in investment returns.
Collateral risk: If you use your home or investment as collateral and it loses value, you may need to repay the loan early or provide more collateral.
Debt stress: Loan payments can strain your budget, especially if your income changes or your investment doesn’t perform.
Limited flexibility: You may not be able to access your money when you need it, especially if it’s tied up in a long-term investment.
Be sure to fully understand the real cost of borrowing and the risks. Have a back-up plan to cover losses in case your investments don’t work out.
Leveraging may not be suitable if you:
Have limited investment knowledge
Prefer low-risk investments
Are retired or close to retirement
Will likely need access to your money within 5 to 10 years
Are struggling to pay existing debts and loans
Have unstable or uncertain income
If you are not comfortable taking on this risk, talk to a financial advisor about other ways you can invest to help meet your goals. They can help you explore safer ways to invest that fit your goals and comfort level.
While borrowing to invest is legal, it’s important to work with registered professionals who follow strict rules. Before borrowing:
Check registration: Make sure your advisor or brokerage is registered at http://www.aretheyregistered.ca/
Ask questions: Understand the loan terms, interest rates, and what happens if your investment loses value
Know your rights: You have the right to clear information and fair treatment from financial professionals