1034: Is It Risky Borrowing Money To Invest? by Chris Reining on Margin Investing & Investment Portfolio Advice
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I'm here every single day bringing you this great content including weekends and holidays. We've actually got five shows where we do this same format but covering different topics so you can search for optimal living daily wherever you're hearing this to find all five of our narration style. Dial podcasts but for now let's get right to our post from Chris as we continue optimizing your life is. Is it. Risky borrowing money to invest by Chris Rining of Chris Rining DOT COM. Today's question comes from Jeremiah. He asks quote. Hey Chris obsessed with your website and advice keep up the great work. I had a question I wanted to run by you. I was looking online at smaller loans and came across some pretty decent terms and had an idea. I wanted to see what you thought about. I can borrow fifteen thousand dollars or possibly more for around three percent interest for three to five years my choice and and was considering doing this and investing that cash into ETF's index funds mutual funds. ETC Now I know the first reaction is probably. Why would you borrow money to invest vest? Fair question my thought process is I can borrow this money at three percent interest and more likely than not be able to get a much greater return than three percent over that three to a five year term. Maybe I'm just being really naive here. Please tell me if that's your honest opinion but I'm really wondering if you think this would be a good idea. Can you help me see where my faults vaults are. If you don't agree and quote since eighteen seventy one. The stock market has returned about nine percent. People will say the market won't have those same returns going forward. That's fine people have been saying lots of things for a long time still wouldn't you're talking about doing is a bad idea and I'll tell you why no one on this planet. Economists analysts strategists nowhere. The market is headed in the short term. On average the market falls ten percent once a year about twenty percent every four or five years and about thirty percent every decade. So can you tell me what happens when you borrow fifteen thousand dollars your investments rise nine percent the next two years but then falls fall save twenty percent. Here's the math. The first year your fifteen thousand rises to sixteen thousand three fifty the second year. Seventeen thousand eight twenty two two and the third year falls to fourteen to fifty eight now. Your loans do in reality. That's not how this would work alone. Requires you to make monthly payments commits. You're constantly selling investments investments. That need to be a taxable brokerage account. So you're also paying short term capital gains tax the way investors typically typically borrow money to invest is with margin. You apply for margin in your brokerage account borrowing money from your broker. Let me tell you a story about margin. There was this twentysomething thing investor who bought a small amount of this biotech stock called Salaya. The stock started doing well so he continued buying more but this time using margin all of a sudden the stocks doc started falling from a high of two hundred seventy six dollars. He's thinking what idiots and uses margin to buy more shares. He can't believe it when it falls to one seventy he. He buys more stunned as it falls to one fifty he buys even more and when it finally hits one thirty. He sells every other stock. He owns raising all the cash he can Dan and margins himself to the Gills. He's convinced the stock is going to rebound and when it does. He's going to make a massive prophet. It then falls to eighty five dollars at this point. His broker is forced to sell his entire position in order to cover his margin debt. Yeah he's sixty thousand dollar brokerage account which took three years to build is wiped out in just two a week's worse he now owes his broker fifteen hundred dollars as for Sarah. It was eventually acquired at eight dollars. You see investing really has nothing to do with money. It's mostly about avoiding bad decisions. And I started using decision trees to help with this after all I'm human and make emotional and psychological mistakes just just like everyone else. Here's a personal example. I like keeping three to five years of living expenses in cash. Should that be sitting in cash in a money market fund or invested did. What's the best decision decision number one cash? Earning zero percent one thousand dollars times. One is one thousand dollars. Decision Decision number two money market funds. Earning two percent one thousand dollars times one point zero two equals one thousand and twenty dollars decision number three invested earning nine percent one thousand dollars times one point nine he qu'ils one thousand and ninety dollars. Investing is the best decision but also also the only decision that involves risk remember on average the market falls ten percent every year about twenty percent every four or five years and about thirty percent every decade okayed. And because there's no way to predict if you're going to get caught in a decline in need to incorporate uncertainty into the decision. Here's how you do that. Let's say you think there's a forty percent chance. The market falls ten percent leaving you with nine hundred dollars and a sixty percent chance. The market goes up nine percent. And you'd have one thousand ninety dollars to who evaluate this decision. You need to work backwards. Nine hundred dollars times point. Four plus one thousand nine hundred times point six equals one thousand fourteen dollars worse. This means you'll probably get worse. Returns from investments earning nine percent one thousand fourteen dollars then from a money market funds. Earning two percent one one thousand twenty dollars decision trees aren't perfect but they are a useful tool to think through options to make the best decision. Make sense we've been in a bull market. Since since March of two thousand nine the market has returned over three hundred percent so anyone invested in this timeframe has made money. And if you've been borrowing money to make money using using margin it's magnified those gains your spouse thinks you're smart. Your friends are jealous. And you're sitting there. Thinking borrowing money to invest. Was a good decision. Okay but but what happens when the market falls like Warren Buffett famously said only when the tide goes out. Do you discover. Who's been swimming naked? Sir Sir. You just listened to the post titled. Is it risky borrowing money to invest by Chris Rining of Chris rining dot com and a real quick thanks to anchor for hosting this podcast. Anchor is the easiest way to make a podcast. They'll distribute podcast for you so it can be heard everywhere spotify a apple podcast Google podcasts. And many more you can easily make money from your podcast to with no minimum listenership anchor gives you everything you need in one one place for free which you can use right from your phone or computer creation tools. Allow you to record and edit your podcast so it sounds great download. The anchor occur APP or go to anchor Dot F._M.. To get started and that'll do it for this installment of optimal finance daily hope. You have a happy rest of your day and I'll see you back here tomorrow. For the Thursday show where your optimal life awaits.