Buying shares on a loan - Pros and Cons!

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Topic: Buying shares on a loan - Pros and Cons!

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harshbhandari
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Topic: Buying shares on a loan - Pros and Cons!
Posted: 23/Nov/2006 at 2:19am

Dear Basant in one of the discussions you had mentioned that actual real estate is never a losing proposition because one holds it for very long periods (10yrs +). Going by the same logic, I have a thought process that what if we take a loan and invest in good companies whose management is excellent. One can pay of the loan with your future earnings just like you would for your house. Over a longer period the power of compounding will come into play and a sizable return can be expected.

e..g. what if i take a loan amount which can be paid back with next 3 yrs salary. This amount I invest in say, RCL, Indian Hotels, Educomp.

BY doing this I will have increased my holdings to a sizable amount (not in ,000 rs but in lacs).

Another advantage is that if i have identified a few good co's i could also ride out any correction or bear phase. Good co's will always come out winners no doubt.

Ofcourse the whole argument is based on identifying the right horse to ride your way to creating wealth!

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xbox
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Posted: 23/Nov/2006 at 6:35am

Taking loan for buying shares is definately wrong idea. Please avoid this and forget it for ever. It is perfect recipe for disaster.

Don't bet on pig after all bull & bear in circle.

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tigershark
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Posted: 23/Nov/2006 at 8:08am

never leverage yourself while buying stocks use the funds generated from the capital gains yu have made to buy something that looks valuable and with a margin of safety when you take a loan one thing is sure the banker will definately get rich whether you will also bcom rich only time will tell

understanding both the power of compound return and the difficulty getting it is the heart and soul of understanding a lot of things

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basant
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Posted: 23/Nov/2006 at 9:18am

Originally posted by harshbhandari

Dear Basant in one of the discussions you had mentioned that actual real estate is never a losing proposition because one holds it for very long periods (10yrs +). Going by the same logic, I have a thought process that what if we take a loan and invest in good companies whose management is excellent. One can pay of the loan with your future earnings just like you would for your house. Over a longer period the power of compounding will come into play and a sizable return can be expected.

e..g. what if i take a loan amount which can be paid back with next 3 yrs salary. This amount I invest in say, RCL, Indian Hotels, Educomp.

BY doing this I will have increased my holdings to a sizable amount (not in ,000 rs but in lacs).

Another advantage is that if i have identified a few good co's i could also ride out any correction or bear phase. Good co's will always come out winners no doubt.

Ofcourse the whole argument is based on identifying the right horse to ride your way to creating wealth!

To me taking a loan is not wrong at all. See you pay 10% to a Bank and if you can make 20% from your investments you should be able to doa clean 10%. But with a loan do not put that money into any company whose capital can be lost for example if you buy shares of say Educomp it is a relatively new company so with that leverage as long as you know what company you are buying into (preferably blue chips) it should not be wronmg. Money is not lost payiung interest but in repaying the capital that is lost.

I started my investing carrer by taking a loan from a Bankwhich I documented in this section but the index wes at a PE of 10 times at 3000. Things have changed but still I continue to hang on to that leverage in the hope of making that incremental return (Actual return - interest cost). It is insignificant to me at the value of today's portfolio but as they say old habits die hard!

FInally 3 out of 4 people lose money by buying stocks on borrowed capital because they bet on the wrong company. Take a loan when we see a June like situation but then at those levels we are already told to hold cash

'The Thoughtful Investor: A Journey to Financial Freedom Through Stock Market Investing' - A Book on Equity Investing especially for Indian Investors. Book your copy now: www.thethoughtfulinvestor.in

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omshivaya
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Posted: 23/Nov/2006 at 9:50am

I would heed you take a look below:

Whenever taking loans for buying shares, assume one and only one thing: MARKETS SHALL CRASH THE NEXT DAY FROM THE DAY YOU BOUGHT THE SHARES(from loan amount). So what's your plan of action in such a case?

I have an idea and hope that helps:

Suppose you want to buy 10 lac worth of shares based on loan.

Loan amount: 10 lac.

Loan interest: 10%

Yearly interest: 1 lac rupees.

Usually such loans are given in overdraft facility, so only the money you withdraw from your overdraft account(which bank shall create just for your loan) will be charged an interest on.

So, keeping a crash in mind and assuming crash shall be for a minimum of 3 years, you keep approximately 240,000 rupees in the overdraft account and use the rest 760,000 rupees for your investment.

What happens in this case:

1) Market crashes next day and stays there for even 3 years. Still you are able to pay the interest for 3 years without any hassles.

So, you are taken care in case of even a bear market to a good extent and I have given the bear market quite sometime: 3 years.

So, what is the ONLY THING YOU HAVE TO WATCH FOR AND REALLY WORK HARD ON?

Answer: The company you are investing into should be a really good one and should under worst of cases, give a minimum absolute return of 100% in 3 years' time.

So, do your research well on that.

The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it

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basant
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Posted: 23/Nov/2006 at 10:43am

Basically that thesis means to buy solid companies and keep some margin in your loan account!!!

Edited by basant - 23/Nov/2006 at 10:46am

'The Thoughtful Investor: A Journey to Financial Freedom Through Stock Market Investing' - A Book on Equity Investing especially for Indian Investors. Book your copy now: www.thethoughtfulinvestor.in

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omshivaya
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Posted: 23/Nov/2006 at 10:50am

Yes, I guess so sir.

The most important quality for an investor is temperament,not intellect.A temperament that neither derives great pleasure from being with the crowd nor against it

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harshbhandari
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Posted: 24/Nov/2006 at 12:12pm

Hi!! Appreciate your views and caution.

My thought process is that if we are able to identify a blue chip with a decent growth record (say, RComm, Indian Hotels) and have a small amount invested in a pure growth play (say, Educomp) and then repay the loan amount as an EMI from whatever is the savings capability in 3 yrs. I am hopeful that the invested amount doubles in 4-5 yrs time.

This is similar to buying a high priced house (e.g. 50-75 lacs) for which we take a home loan and then pay it over 10-20yrs. The EMI is usually less than the savings per month that one is generating.

Similarly but on a smaller scale (rather than buying a 50-75 lacs house being paid over 10-20yrs) we can take a loan amount and then invest in the said 3 co. in the ratio of

Indian Hotels - 40% , RComm - 35%, Educomp - 25% (or a fin. services co. such as HDFC Bank, Rel. Capital, or TV18)

This looks like a mix of brick & mortar safe co. and some growth co.

I want to make this experiment and see if I can create some decent wealth.

Your views.

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