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17. Understanding the Role of Leverage in a Financial Plan · Dime After Dime

• 0:00
  SPEAKER_00: Well, some people think that leverage is just for hedge funds, which it's absolutely not.
• 0:05
  SPEAKER_00: Some people think leverage is considered speculative and they would never do it.
• 0:09
  SPEAKER_00: But done responsibly, leverage can be used as a very important part of an overall financial plan.
• 0:18
  SPEAKER_01: You're listening to Dime After Dime, a Moran wealth management podcast.
• 0:22
  SPEAKER_01: Every episode, your host, Tony Steak, brings in financial professionals to discuss strategies and insights for investors who want to grow and protect their wealth.
• 0:31
  SPEAKER_01: With that, here's Tony.
• 0:56
  SPEAKER_02: Of course.
• 0:57
  SPEAKER_02: Yep.
• 0:58
  SPEAKER_02: Discipline, but also that leverage is not always a bad thing, especially when you look at very successful individuals and investors and how they use leverage to their advantage.
• 1:07
  SPEAKER_00: Right.
• 1:08
  SPEAKER_00: Well, it's really not just for do-it-yourselfers.
• 1:11
  SPEAKER_00: It's for it's used as a financial planning tool.
• 1:14
  SPEAKER_00: Um, I deal with leverage all the time to help people create liquidity to bridge certain situations so they're not having to sell stock, create capital gains, and uh be out of the market.
• 1:29
  SPEAKER_00: So there's a lot of different ways you can use leverage.
• 1:33
  SPEAKER_02: So in the personal investment context, let's just kind of like, let's just do the table stakes.
• 1:38
  SPEAKER_02: Talk a little bit more about leverage and what it actually is.
• 1:40
  SPEAKER_00: Yeah, sure.
• 1:41
  SPEAKER_00: So it's very simply borrowing money against your investment account or personal assets like a home or a business.
• 1:50
  SPEAKER_00: Um and so there are different kinds of leverage, and you're right, it's become very popular.
• 1:56
  SPEAKER_00: Um, I looked up uh on the FINRA website today, there's over$1 trillion worth of margin, which is just one type of leverage we're going to be talking about today in the country.
• 2:09
  SPEAKER_00: So that is a big number.
• 2:10
  SPEAKER_00: I think back in 2023, it was about 800 billion.
• 2:14
  SPEAKER_00: So it definitely is something that's very popular.
• 2:17
  SPEAKER_00: Um also UBS, I did some research, um, and UBS actually states that 42% of investors, high net worth investors that use leverage actually use it not to speculate, but to improve their liquidity situation.
• 2:33
  SPEAKER_02: Okay.
• 2:33
  SPEAKER_02: So let's talk more, let's just unpack this even further for the audience.
• 2:37
  SPEAKER_02: Let's just go kind of line by line through the definitions of the various types of leverage.
• 2:42
  SPEAKER_02: Maybe start with securities-based lending.
• 2:44
  SPEAKER_00: Yeah, sure.
• 2:44
  SPEAKER_00: Um, securities-based lending is issued by the bank of your custodian.
• 2:50
  SPEAKER_00: Um, it is just using your after-tax accounts.
• 2:55
  SPEAKER_00: IRA accounts are not qualified to be a part of the calculation of how much you can borrow.
• 3:01
  SPEAKER_00: Um, and it's very similar to margin, which is another type of leverage.
• 3:06
  SPEAKER_00: Um, margin is a brokerage account product, not a bank product, but that's not really relevant.
• 3:11
  SPEAKER_02: Okay.
• 3:11
  SPEAKER_02: It's almost the same thing you're saying.
• 3:13
  SPEAKER_00: Yeah, it really is in the fact that there is no underwriting.
• 3:17
  SPEAKER_00: So it's really easy to open up either a secured securities-based loan, um, which some companies called pledged asset lines or non-purpose loans.
• 3:26
  SPEAKER_00: It's really easy to open up, it's really fast.
• 3:29
  SPEAKER_00: Um, you don't have to pay any interest on either of them until you borrow the money, which makes a great financial planning tool that we can talk about a little bit more.
• 3:38
  SPEAKER_00: Um, and uh, and yeah, and so you're you're you'd be able to borrow anywhere between 50 to 70 percent.
• 3:45
  SPEAKER_00: You can get a little bit more pull off of a securities-based loan um than you can off of margin, but still, even with margin, you can borrow 50%.
• 3:55
  SPEAKER_02: Okay, so in effect, though, for the audience, you are just it's your assets, your equities, whatever those investments are, are essentially collateral to having access to more capital.
• 4:08
  SPEAKER_00: Exactly.
• 4:08
  SPEAKER_00: Yes.
• 4:09
  SPEAKER_02: Got it, got it.
• 4:09
  SPEAKER_02: Let me ask you a question that we didn't talk about in the pre-show, and maybe this is unfair, but can you look at, and this is not even topical.
• 4:17
  SPEAKER_02: I mean, well, this is topical, but can you look at that loan or that lending vehicle as a means for an emergency savings account?
• 4:24
  SPEAKER_00: That is the most of the time when I recommend it, it's to replace an emergency fund.
• 4:30
  SPEAKER_00: Okay.
• 4:31
  SPEAKER_00: Instead of you just having cash.
• 4:32
  SPEAKER_00: I mean, it's been great because money market funds have been paying four and five percent.
• 4:37
  SPEAKER_00: But as money market rates go down, um, you probably want your cash to be working a little bit harder for you.
• 4:43
  SPEAKER_00: So a good emergency fund is going to be anywhere between three to 12 months of spending needs, depending upon your situation.
• 4:51
  SPEAKER_00: Like, do you have a solid job?
• 4:52
  SPEAKER_00: Are you, you know, two income household?
• 4:55
  SPEAKER_00: Um, but yeah, opening up a um margin account or a securities-based loan account is a great replacement for an emergency fund.
• 5:06
  SPEAKER_00: And but the the key is though, is you have to open it up now because sometimes the when the biggest emergencies happen, it's like very difficult to scramble.
• 5:16
  SPEAKER_00: So you open one up now.
• 5:17
  SPEAKER_00: Like I said, there's no fees to open up either account, um, no interest until you borrow the money.
• 5:23
  SPEAKER_00: So it's there when you need it.
• 5:24
  SPEAKER_02: It's almost like a home equity line of credit, then you can just draw off if you need to.
• 5:28
  SPEAKER_00: Yeah, that's actually a third um way to leverage is against your house.
• 5:33
  SPEAKER_00: Um, we definitely don't recommend um taking leverage out of your house um for certain reasons, like never for investing.
• 5:42
  SPEAKER_00: But yeah, home equity lines, home equity lines are definitely another way to go.
• 5:46
  SPEAKER_00: Um, but you're gonna have some closing costs associated with home equity lines, like the state stamp taxes, and some banks just charge a fee even if you don't borrow the money.
• 5:57
  SPEAKER_00: New York is definitely one of those states that are more expensive with just opening up a home equity line.
• 6:04
  SPEAKER_02: Sure.
• 6:04
  SPEAKER_02: So thinking more broad about leverage, we've kind of talked about securities-based or margin, we've talked about HELOCs, because these are all avenues that you need to consider in a holistic financial plan, right?
• 6:16
  SPEAKER_02: Like not only potential opportunities for capital, especially if the need arises, but what's what's extrapolate even further on on leverage?
• 6:26
  SPEAKER_02: When we're looking at a financial plan, we should be considering all forms of debt, right?
• 6:30
  SPEAKER_02: Including even auto loans and other everything else as it looks to your total mix for your portfolio and your financial plan.
• 6:37
  SPEAKER_00: Yeah, sure.
• 6:38
  SPEAKER_00: I I mean, part of that is using a securities-based loan to refinance higher debt.
• 6:44
  SPEAKER_00: Okay.
• 6:44
  SPEAKER_00: Um, a lot of the, I mean, 99.9% of the time, the interest rate's going to be less than a credit card.
• 6:51
  SPEAKER_00: So you especially want to try to um refinance, you know, any credit card debt you have, and then talk to your advisor about coming up with a plan so you just don't get back into that credit card debt.
• 7:02
  SPEAKER_02: Yeah.
• 7:02
  SPEAKER_02: So that but I love that point though, is that you can look at this vehicle not only for uh for emergency needs, but also if you've accumulated some short-term debt, right, or high yield or high interest rate debt, you could look at these vehicles as a means to lowering that down, consolidating that payment, but also doing responsibly.
• 7:22
  SPEAKER_02: So if you got into credit card debt in the first place and you are going to kind of clean that up through this type of leverage, using a financial planner and advisor to say, okay, now what was the root of those that the debt, right?
• 7:37
  SPEAKER_02: And how can we solve that problem?
• 7:38
  SPEAKER_00: Right.
• 7:38
  SPEAKER_00: And it's not just a matter of not getting back into credit card debt, it's putting a plan together of how to pay back the loan.
• 7:45
  SPEAKER_00: So generally, when I um open up these securities-based loans, um, depending upon how long the life of the loan is going to be, um, you know, we could either use dividends to pay back the loan for, you know, but that's going to take longer.
• 8:02
  SPEAKER_00: And the longer a loan takes to pay off, you'd hope to be in a more attractive interest rate environment.
• 8:10
  SPEAKER_00: You know, so if if the you know rates were 3%, I'd say, let's take our time and cost average out of the market.
• 8:16
  SPEAKER_00: Like let's say there's a$100,000 loan, let's take$5,000 a month out of your equity portfolio so we can spread out the taxes.
• 8:24
  SPEAKER_00: We can dollar cost average out of the market, which is the opposite of dollar cost, you know, everybody knows how to dollar cost average into the market.
• 8:32
  SPEAKER_00: But, you know, doing the same way coming out of the market to pay down the loan is a good idea.
• 8:37
  SPEAKER_02: Never even thought about that.
• 8:38
  SPEAKER_02: So you can actually kind of not manipulate, because that's the wrong word, but looking at different levers to pull to it to make it more advantageous on that type of leverage, right?
• 8:49
  SPEAKER_00: Yeah.
• 8:49
  SPEAKER_00: And you also have to consider what the outlook of the economy is.
• 8:52
  SPEAKER_00: I mean, if things are slowing down and we're staring down the barrel of a recession, you probably just want to, you know, take the money out and pay for the loan all at once and just take.
• 9:02
  SPEAKER_00: I mean, as a financial advisor, it's a constant conversation about comparing um the costs of the possible taxes you're going to pay to liquidate stock, the opportunity cost of being out of the market versus the interest rate you're paying on the loan.
• 9:17
  SPEAKER_00: But um, there actually there are some um tax benefits to securities-based lending and margin lending as well.
• 9:25
  SPEAKER_00: So um that will actually reduce the effective rate of the loan as well.
• 9:30
  SPEAKER_00: And that's something that people should talk to their CPA about.
• 9:32
  SPEAKER_00: Yes.
• 9:33
  SPEAKER_02: Let's talk to our CPAs about that, right?
• 9:35
  SPEAKER_02: That's our that's our disclosure.
• 9:37
  SPEAKER_00: Yes, yes.
• 9:38
  SPEAKER_02: So tell me what common pitfalls or just kind of risk you see with investors as it relates to leverage.
• 9:45
  SPEAKER_00: Yeah, well, um, there is a behavioral aspect to it where, you know, people want to leverage their portfolios to buy additional securities, but are they chasing returns?
• 9:57
  SPEAKER_00: You know, so that's something that um we would have to look out for.
• 10:01
  SPEAKER_00: Um, also, you definitely don't want to max out um the credit that you have on your loan because just because you can pull out 50% of the value of your portfolio, if the market goes down, you're gonna go into a margin call.
• 10:16
  SPEAKER_00: And so different brokerage firms have different, it's called maintenance requirements.
• 10:20
  SPEAKER_00: You know, maintenance requirement of 30, 40%.
• 10:24
  SPEAKER_00: Um, the market only has to go down, you know, 20% approximately before you're hit with the margin call.
• 10:30
  SPEAKER_00: And if that happens, you either have to sell stock.
• 10:33
  SPEAKER_00: And guess what?
• 10:33
  SPEAKER_00: You're selling stock at very inopportune times at a discount, or you're gonna have to bring cash that you may or may not have to get that.
• 10:41
  SPEAKER_00: So, you know, we the, you know, one of the pitfalls is making sure that you don't, you know, take out too much.
• 10:47
  SPEAKER_02: Take out too much, right?
• 10:48
  SPEAKER_02: Just in case there is a correction or what have you.
• 10:51
  SPEAKER_02: Now, uh, random question, but does does this does this type of liability or leverage impact the credit score as well?
• 10:58
  SPEAKER_00: No, not at all.
• 10:59
  SPEAKER_00: There is no underwriting whatsoever on either the um margin loan or the securities-based loan.
• 11:04
  SPEAKER_00: On a home equity line, you have to basically give up your firstborn in order to get approved for the application, and that um will affect your credit when they pull it.
• 11:13
  SPEAKER_00: It's a hard pull.
• 11:14
  SPEAKER_02: So so back to responsible borrowing.
• 11:16
  SPEAKER_02: So we have to look at a few different metrics, right?
• 11:19
  SPEAKER_02: We have to look at um, and I haven't written down your interest rates, portfolio volatility, and loan to value ratios before you make, before you borrow, right?
• 11:28
  SPEAKER_02: And you kind of touched on all of those because each one of those could influence well, can put you in a position where there is a margin call, right?
• 11:35
  SPEAKER_02: Or just in generally speaking, it might get you in a financial uh position where you might not be able to get out of very easily.
• 11:41
  SPEAKER_00: Yeah, absolutely.
• 11:42
  SPEAKER_00: And so it's um, you know, it's it's the job of the investor or the financial advisor and the investor to put a disciplined plan together, stress test the portfolio under different interest rate environments and different loan amounts, um, and uh and and just make sure it's being used for the right purpose.
• 12:01
  SPEAKER_02: Okay.
• 12:02
  SPEAKER_02: So let's put your advisor hat back on.
• 12:04
  SPEAKER_02: It's been on this whole time, to be fair.
• 12:06
  SPEAKER_02: Um, and let's talk a little bit more about really kind of looking at the holistic, kind of the larger financial plan, right?
• 12:13
  SPEAKER_02: And you're working with a client and you want, they want to integrate leverage into that.
• 12:19
  SPEAKER_02: How are you looking at that entire plan?
• 12:21
  SPEAKER_02: How are you considering all of their debt, all of their assets before you make a recommendation around leverage?
• 12:28
  SPEAKER_02: Well, and that's a loaded one.
• 12:30
  SPEAKER_02: And it goes back again to volatility.
• 12:32
  SPEAKER_00: Yeah, no, no.
• 12:33
  SPEAKER_00: I mean, it's obviously it's not going to be extremely important to understand, you know, the rates that they're paying on their car loans or even on their mortgage, you know, but um but in looking at an entire financial plan, I do look at those things as a part of it.
• 12:53
  SPEAKER_00: But when it comes to discussing leverage and the benefits of that, it really is kind of a a standalone conversation about why, how, um, and if it makes sense.
• 13:05
  SPEAKER_00: Does that yeah, no, no, yeah, yeah, absolutely.
• 13:08
  SPEAKER_02: Because I think people oftentimes look in a myopic kind of sense where they should be looking in totality around that.
• 13:15
  SPEAKER_02: And I I realize different types of leverage have different impacts on your portfolio or your financial plan, but looking holistically at it is beneficial.
• 13:23
  SPEAKER_02: And having an advisor kind of kind of walking through that process, that's really beneficial as well.
• 13:28
  SPEAKER_02: So I always love this one because like there's a lot of misconceptions.
• 13:33
  SPEAKER_02: People walk into your office, they sit down with you, and they have misconceptions around everything, including leverage.
• 13:38
  SPEAKER_02: What is a common one that you have to kind of talk through with your clients?
• 13:42
  SPEAKER_00: Uh well, some people think that leverage is just for hedge funds, which it's absolutely not.
• 13:47
  SPEAKER_00: Some people think leverage is considered speculative and they would never do it.
• 13:52
  SPEAKER_00: Um, but done responsibly, leverage can be used as a very important part of an overall financial plan.
• 13:59
  SPEAKER_00: Um, you know, speculation, on the other hand, would be but putting all your money in penny stocks or putting it all into even a one blue chip stock.
• 14:08
  SPEAKER_00: So um I would definitely not consider using uh responsible leverage as a risk.
• 14:14
  SPEAKER_02: Sure.
• 14:15
  SPEAKER_02: I think there are folks out there that that are just kind of like allergic to debt, right?
• 14:21
  SPEAKER_02: And they and we deal with those folks all the time where they just don't want to carry any debt.
• 14:25
  SPEAKER_02: Right.
• 14:26
  SPEAKER_02: And sometimes it's a matter of making them comfortable versus doing what's right because you know, comfort or the behavioral side is what we're trying to achieve, making them feel comfortable.
• 14:37
  SPEAKER_00: Yeah.
• 14:37
  SPEAKER_00: People are allergic to paying taxes by selling the equities in their portfolio.
• 14:42
  SPEAKER_00: I mean, with the run-up that we've seen in the market over the last 15 years, uh, you know, right now it is um you're seeing a lot of unrealized gains in the types of accounts that can be used as collateral.
• 14:54
  SPEAKER_00: So it's just a calculation and what they're more comfortable doing.
• 14:58
  SPEAKER_02: Sure.
• 14:58
  SPEAKER_02: So last question, it's a pretty simple one.
• 15:01
  SPEAKER_02: You know, we have folks listening in today or watching, and they're curious about leverage.
• 15:06
  SPEAKER_02: Um, what are the two or three things they can do to explore whether or not leverage makes sense for them in their portfolio?
• 15:14
  SPEAKER_00: Um, well, the first thing they should do is ask themselves if I needed cash immediately, what would be the best way to take it out?
• 15:21
  SPEAKER_00: If they don't have an answer for that, then it's time to, you know, speak to your advisor to figure out um how they would accomplish that goal.
• 15:31
  SPEAKER_00: Um, and then really, like I mentioned before, it's just about once we identify the fact that leverage is a conversation, then we stress test the portfolios, we do calculations, we weigh the benefits and disadvantages.
• 15:45
  SPEAKER_02: Sure.
• 15:46
  SPEAKER_02: So those are great.
• 15:47
  SPEAKER_02: So it's it's a matter of doing some math, right?
• 15:50
  SPEAKER_02: But I think just to bring it back full circle, um, knowing that leverage can be advantageous as relates to like emergency savings or just being able to pull that out, knowing that it's for free to open that account up, doesn't hit your credit score.
• 16:02
  SPEAKER_02: Right.
• 16:02
  SPEAKER_02: Right.
• 16:03
  SPEAKER_02: And it's readily available for to you if you need it and done responsibly, uh, leverage can be an integral part of someone's portfolio and their financial plan.
• 16:12
  SPEAKER_00: Yeah, yeah, absolutely.
• 16:14
  SPEAKER_00: It was uh just a week ago, my client was telling me about how they wanted to buy a house, um, but they were concerned about um matching up the closing dates with their existing house.
• 16:25
  SPEAKER_00: So that's that was a slam dunk.
• 16:27
  SPEAKER_00: So I said, here we'll just consider borrowing it from your portfolio as a bridge loan.
• 16:33
  SPEAKER_00: Um, and we can give you a letter that says you have at least this much money.
• 16:38
  SPEAKER_00: You can make a cash offer, you know, which it would be considered a cash offer.
• 16:42
  SPEAKER_00: Um, and if it was a seller's market, obviously that would give more leverage.
• 16:46
  SPEAKER_00: Right now it's a little bit different than that.
• 16:48
  SPEAKER_00: Um, but they buy the new house and they take their time selling their existing house to get the price that they want.
• 16:54
  SPEAKER_02: That's a great anecdote about financial advisors in general, right?
• 16:57
  SPEAKER_02: That any financial decision, any really major life decision, they should consult someone like yourself first because we offer solutions to problems like that, which are uh obviously every decision comes with some risk, but it's a seemingly low risk to help you get through that quick bridge you needed, right, to acquire the loan.
• 17:17
  SPEAKER_02: And of course, to your point, being able to make a cash offer in a tough market, right?
• 17:23
  SPEAKER_02: A seller's market um makes you a little bit more attractive of a buyer.
• 17:27
  SPEAKER_02: Julie, thank you so much for coming on.
• 17:29
  SPEAKER_02: This is a fun one.
• 17:30
  SPEAKER_02: Leverage is always it's it's it's a dirty word for some, right?
• 17:34
  SPEAKER_02: Scary, right?
• 17:35
  SPEAKER_02: I think we all watched, you know, the last few years of the margin calls and all that stuff.
• 17:39
  SPEAKER_02: Right, right.
• 17:40
  SPEAKER_02: And we we hoped spend more of those folks, look to an advisor, someone that they can consult to help them through those challenges.
• 17:47
  SPEAKER_02: But when you look at it in totality, right, how leverage can be advantageous to you along your way to retirement.
• 17:55
  SPEAKER_02: Uh what an incredible conversation, Julie.
• 17:57
  SPEAKER_02: Thank you so much for coming on.
• 17:58
  SPEAKER_00: Nope.
• 17:58
  SPEAKER_00: Thank you for having me.
• 17:59
  SPEAKER_00: It was it was enjoyable.
• 18:01
  SPEAKER_02: A lot of fun.
• 18:02
  SPEAKER_00: Yes.
• 18:02
  SPEAKER_02: And if you want to follow Julie's travels across the country for bowling, you can find her online.
• 18:09
  SPEAKER_02: Uh, but make sure you like and subscribe to the episode.
• 18:11
  SPEAKER_02: Thank you so much for joining us here today.
• 18:13
  SPEAKER_02: And don't forget to share this with a friend or family who are also trying to look at leverage in their portfolio to build wealth.
• 18:22
  SPEAKER_02: Dime after dime.
• 18:23
  SPEAKER_02: I'm your host, Tony.
• 18:24
  SPEAKER_02: Thanks for joining us again today.
• 18:28
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• 18:30
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