Not a lot has changed since Investment Trends canvassed the opinions of advisers about margin lending between October and December last year. Put simply, the market size has contracted a further billion to an estimated $15 billion.
And it is still characterised as a fragile market. Investor negativity and doom and gloom around share market movements as well as the trend to deleveraging have done this market no favours.
Of course, the rot set in when margin lending began to experience heavy declines in volumes since the global financial crisis hit the United States in 2007 and in Australia in 2008. In that period, there was also much consolidation.
The Achilles heel of margin lending has always been the way it straddles both lending and equities markets. Margin lending typically moves in tandem with share markets.
However, it is in these ambivalent times that margin lending product manufacturers have taken a much closer look at the possibilities of developing products without a margin call.
In challenging times, product manufacturers have turned the spotlight on themselves and are now actively working to remedy the perceived downsides of their products.
State of the market
“Margin lending is a good barometer of what people are thinking. If they are borrowing money, they generally have a good view of what is happening,” CommSec general manager of retail distribution Brian Phelps says.
As Investment Trends now compiles the results from its consumer survey, advisory board member Eric Blewitt says there are a few interesting findings that indicate investors are indeed picking themselves up.
For example, while around 90 per cent of consumers surveyed believe Australian equities are undervalued, 70 per cent consider property is not as good a bet as stocks.
“They’ve perceived that they [equities] are undervalued, but investors are also saying ‘think about equities’,” Blewitt says.
However, this optimism is on a knife edge. “If you go lower down the path of doom and gloom, you start to get into fear, and that [optimistic] attitude will start to diminish,” Blewitt says.
Meanwhile, margin calls are still a big issue for both investors and advisers. Although 42 per cent of advisers surveyed named it as their biggest concern in the Investment Trends December 2011 Margin Lending Financial Planner Report, 20 per cent have never experienced one.
Phelps says the retail margin lending market has certainly stagnated over the past six to 12 months, yet in the past six weeks it has experienced growth. “People are prepared to borrow a bit,” he says.
That said, currently investors aren’t carrying much leverage in their portfolios. NAB head of equity lending Adrian Hanley says as at 31 December 2011, margin lending clients had 34 per cent gearing in their portfolios.
“That is pretty much at historic lows. People are utilising any extra income beyond interest payments to retire debt,” Hanley says.
Economic viability of
margin loans
The cost of funding has gone up and the reality is that this is now built into the cost structure of products such as margin loans.
Both price and expected return are being impacted on by the economic viability of margin loans.
Although this may be a factor in the decline in adviser interest in margin loans, it is not a driver in terms of the size of the market. It will, however, impact on its growth.
Financial planners say client demand for margin lending is around 53 per cent, with 50 per cent looking for better stock market conditions before they will consider a margin lending strategy.
“Financial planners are cautious. They are saying they want more support from lenders,” Blewitt says.
NAB is having some success in encouraging advisers to use margin lending as a liquidity tool for a share portfolio rather than simply as a wealth creation tool. That is, to use the liquidity available in a margin loan to supplement a client’s other cash management positions.
Given there are more equities on offer in the market than just the ASX/S&P 200, as other investment opportunities arise, investors are able to invest because they have some liquidity in their portfolio.
“And if you’re not using it, it’s not costing you anything,” Hanley says.
Line of credit as a margin lending strategy
The use of lines of credit to borrow funds to then invest in shares has increased. Blewitt says their appeal relates back to giving investors a way to alleviate the possibility of a margin call.
“Margin calls are seen as a nasty, horrible thing. But it is manageable. It needs to be monitored,” Blewitt says.
Phelps says for the past two years, investors have certainly been thinking if they have the ways and means around a line of credit, that they can use it to buy equities.
“So gearing is going on, just not via margin loans,” he says.
He says a line of credit is regarded by investors as generally cheaper, a bit more accessible and pretty easy to link up to a cash account, so you don’t then have margin calls per se.
Blewitt warns, however, there are dangers in using a line of credit to invest instead of a margin loan. That is, that a margin call is actually a good call to action, and unless an investor and adviser are extremely diligent, there is the potential of ignoring it.
“It can fit the bill. It does have pitfalls and dangers. But it is totally incumbent on both the planner and the client to stay on top of the overall gearing in an individual portfolio,” Blewitt says.
Margin lending products without a margin call
Anything is possible, say the product manufacturers and the researchers.
“It’s not as though the ability to develop that product hasn’t existed,” Blewitt says.
That said, he says it is an oxymoron to want a margin lending product but with no margin call.
The margin lending industry has worked hard over the past 10 years to develop tools and mechanisms to help advisers and their clients manage margin calls.
“Helping clients manage risk, diversifying is all good stuff. But the genesis of this is a product that does not have a margin call,” Blewitt says.
And to some extent, these products are already available, such as put options and capital-protected products, which give investors either control over a margin call or which have no margin call at all.
Despite their existence, most people have generally had the attitude that they might not need to use a margin call, that they will take a chance and that they are not willing to pay the premium on products that do not have them.
A margin lending product with a margin call
NAB head of equity lending Adrian Hanley says ultimately a margin lending product with a margin call would look like a home loan.
The investor would agree to principal and interest payments and the bank would focus more on the behaviour of the investor rather than perhaps the value of the asset.
So it would be supplementing a margin call with another mitigating tool, such as principal and interest payments, almost like instalment gearing but in reverse.
In this way, an investor could commit a certain amount of savings, prop this up with a loan and then invest in managed funds.
“Definitely in speaking with advisers, there is a lot of interest in these types of end products,” Hanley says.
“It needs to be simplistic.”
