Hi, I’m Erik Wolfers, founder and managing member of First & Main Financial. We’ve been crafting perfectly personalized financial solutions for our clients since 2001—over 20 years now. I want to talk today a little bit about the use of leverage in investing.
Leverage, if you’re not familiar with the concept, would be borrowing money to do something, to make something happen. Of course, one of the most common use of leverage for people is borrowing money to buy a home. Most people don’t have a million dollars or two million dollars sitting around, and so they borrow often times 80% of the value of a home—the bank will approve them for 80% percent, assuming that the home appraises for as much money as they are trying to buy it for. Buyers often come up with 20% to put down—that’s common. Sometimes people put down less and pay mortgage insurance, which can be a little bit of a bummer—but can be a way to get in the house if you don’t have the cash to put down 20% but you do have the ability to make the payments. When you’re using leverage to buy a house often times the rate that you’re paying on the mortgage is significantly less than you might earn in other investments. I’ve talked some in the past about prepaying your mortgage or making extra payments in your mortgage as being a wealth destroying proposition—you destroy wealth.
If you’re somewhat along in home ownership or if you’ve created an investment portfolio that’s got some decent value, you can leverage your home and you can leverage your existing investment portfolio to make additional Investments. If your home has, let’s say, half a million dollars of equity in it, you can get a line of credit—and a line of credit can be used in case of emergency, or can be used for a temporary period of time if you lose your job or not able to earn income for a while—and that can allow you to preserve your investments in the market. Sometimes when we hit a recession and if somebody loses a job, or their wages are cut in some form or fashion, if you keep your money invested for the long-term, if you can ride out the storm, then you’re likely get better long-term returns then by selling when things are bad or when things are down. Or, when things go down, if your income is stable, you could actually use some of the equity in your house to put more into the stock market or to buy a piece of investment real estate.
People who are deep into finance and advanced investing do it all the time—they use other people’s money, is a common saying. If you have a program of saving and investing and you potentially want to increase the size of your portfolio, your wealth over a long period of time, there may be times when it makes sense to judiciously use leverage, or somebody else’s money, especially when interest rates are low.
You never want to put yourself in a position where things will fall apart. Certainly, if you do lose your job or markets go down, you don’t want to be forced to repay a loan at a time when you can’t really afford to repay it. You don’t want to have to sell securities at a disadvantageous time—so this is the kind of thing that is an advanced personal finance topic—and it does require careful consideration and thought as to what things might look like in the future and an analysis of how steady your income is and how stable your life is. However, in my experience in over more than 20 years, a lot of people have more stability and more promise over the next several decades of their lives than they realize because they haven’t lived those years yet, and so the use of leverage could help, possibly towards an early retirement or something like that.
If you are looking for some financial guidance; whether for a one time financial plan or continuing advice on your investments, we invite you to meet with a First & Main Financial planner for a free consultation. We would be more than happy to sit down with you, assess your situation and review our services to help navigate your financial future.
