Margin lending geared to the masses

Margin lending has and continues to make significant inroads into the psyche of investors and advisers.

According to the Reserve Bank, more than $8.8 billion is on loan through margin lending to more than 100,000 Australians.

It is estimated the value of margin loans on the books of major banks and stockbrokers doubled in the two years preceding 1999 to at least $4.2 billion, with Australia’s margin lending market estimated to be growing at between 15 and 20 per cent a year.

And while the Australian Bureau of Statistics shows that direct share ownership by Australian adults doubled between 1997 and 2000, the latest ING Melbourne Institute Savings Report shows investment in shares has fallen to a three-year low, with real estate the new darling of the market.

In the meantime, new products are bringing a more diverse group of investors into the margin lending sector.

Macquarie is promoting protected lending, where clients borrow 100 per cent of borrowings to invest in quality Australian shares.

A critic of these protected lending products is SallyAnn Hunting, head of distribution at BT Margin Lending.

“They are often only relevant at certain points in the investment cycle, for example, when there’s uncertainty about interest rates,” Hunting says.

Another of Macquarie’s offerings, an instalment gearing product, has seen good growth, says John Meagher, associate director Macquarie Margin Lending. Low entry points and monthly instalments of $250 to $500 allow younger players into the margin lending game — previously an investment option only for the older, more financially cushioned investor.

“These regular savings plans have a great advantage,” Meagher says.

“The client can undertake a geared investment without a great outlay.

“It’s a savings plan coupled with borrowings, and everyone is familiar with savings plans, whether it’s saving for a car, a holiday or a house. So, conceptually, it’s something people are comfortable with.

“And because of the small amount of capital required, it’s a good alternative investment for people who don’t have the money for a home.”

Meagher should know. It’s how he accumulated the money for his first home.

Demographic change is partly a driver for the swing youthwards. The work force is becoming more transient, which makes real estate a liability in some cases. Others see additional costs, such as stamp duties, as significant barriers to full-value investment.

Hunting has also seen a shift to younger investors.

“People from these early years are certainly coming to gearing more and the industry is responding by offering this set-and-forget mentality where they can start low and regularly gear.”

Another use for this investment model is to cope with future education costs of children, especially for children from second marriages when the bills sometimes come well after the parents’ retirement age.

“We have people who use it as a regular savings plan for 10 or 12 years and it builds up into a significant asset for school costs,” Meagher says.

“Margin lending was considered the sole preserve of the high-net-worth client on a high marginal tax rate. It’s not any more.”

John Pearce, general manager investments for Colonial First State, welcomes Macquarie’s entry into geared share investment.

“To be honest, we’re surprised it’s taken four years for a competitor to come into the market,” he says. “We’ve returned 24 per cent compound in four years, so perhaps that was scaring them away.

“But now they’re in the market, I don’t mind Macquarie as a competitor because I would like the general awareness of the market to go up. The more products, the better for us.”

Inflows for Colonial’s geared share product have been steady.

The success of the geared share structure makes Pearce wonder about the possibility of a geared index fund, maybe a geared banking and finance fund. He adds, however, that volatile indexes such as technology stocks would not be viable.

“But conceptually, I don’t see why a geared index fund couldn’t be introduced,” he says.

Any future developments of the overall gearing structure could benefit from the precedent of Colonial’s Australian share fund, which Pearce describes as ‘elegant’.

“It is a risk mitigator,” he says. “When the markets are running hot, there’s a low dividend yield. So the gearing’s lowest when the market’s high. There’s a natural set of checks and balances there.”

He believes the geared share alternative offers distinct advantages over straight margin lending.

“There’s only one document, there’s no margin calls, there’s the risk-mitigation factor, and super funds can invest in them and use that leverage,” he says.

Earlier this year, BT adjusted its gearing ratios to allow margin lending clients to borrow more. Hunting says the move was merely standardisation and simplification.

BT clients can borrow up to 65 per cent on most Australian share and balanced funds — up five per cent. Technology managed funds stayed pegged at 40 per cent.

However, Hunting is predicting new lending models for the future.

“One of the areas in which we will see some movement is on the whole lending and personal finance market coming closer together, where there’ll be one portfolio with a lot of collateral in it and different lines of credit hanging off the back of that.”

Screen-based servicing, online information and electronic execution are all part of this future.

Among the latest screen-based offerings to planners is a support program from St George Margin Lending. Planner Assist provides planners with practice management materials, including customer education, presentations, calculators, simulators and marketing strategies.

The software is available via the Internet through a password-protected system and offers a list of more than 700 acceptable securities, including direct shares and managed funds.

To date, margin lending products in Australia have mainly been sold through advisers. However, service providers, such as banks, are increasingly selling margin loans directly to consumers.

And the growth in Internet trading has also seen many online brokers linking execution-only Internet services with margin lending products.

A reason for margin lending’s popularity on the screen is the fact that investors can set up online accounts of any size — very often for no fees — and free of any financial assessment.

Online brokers offering this sort of facility include E*Trade and TD Waterhouse. E*Trade offers a choice between ANZ and BT and requires no credit check.

Some funds, however, apply a minimum interest rate regardless of how little is borrowed.

Macquarie’s Meagher says he has not found the move to online margin lending significant.

“With this type of investment, advice is pretty important. Most clients come through advisers,” he says.

“Clients are very cognisant of the risks. There’s a lot of editorial coverage in the media and the stories always mention margin calls. There’s a high level of awareness.”