Choosing a productive investment vehicle is difficult right now – bank deposit rates are under 2% per annum, property prices have reached unheard-of limits, and the amount that can be contributed to superannuation is now not only severely restricted, but also inaccessible till age 60.
This takes us back to my favourite investment: shares. Unfortunately, many Australians treat the stock market as a bit of a gamble, and can relate stories of friends who have had a flutter and lost the lot. Also, using leverage on the stock market can be tricky; history is replete with stories of investors who got caught with margin calls and lost the lot.
Enter a new product that solves the above problems, and is one of the best wealth creation devices I have seen. Called the NAB Equity Builder, it offers novice investors a simple way to borrow for investment in shares.
Because the NAB product is using shares as security for the loan, the initial loan application is subject to a Loan to Valuation ratio (LVR) between 65% at 70%, depending on the loan’s term. What makes this loan unique is that there are no margin calls if the share market plunges and the borrower’s equity falls below the initial LVR. This makes the loan far less risky because the borrower can never be forced to dump shares at the worst possible time. A further built-in safety is that all loans are written on a principal and interest basis with a maximum term of 15 years. Therefore, the investors equity grows as the debt reduces.
Another challenge when buying shares is to pick winners. Unfortunately, even most of us experienced share investors can relate many stories about the ones that went wrong. NAB gets around this problem by limiting the eligible investments to a range of managed funds that are representative of the stock market as a whole.
Let’s look at a couple of case studies to see how it works in practice.
CASE STUDY 1: Chloe is 25 and struggling to save a deposit for her first home. She has $30,000 saved, which she now invests, borrowing $70,000 for a total investment of $100,000 in a portfolio of managed funds investing in blue-chip shares. She chooses a 10-year P&I loan, and makes her $750 monthly loan repayment. Provided the portfolio can produce 7% per annum, including dividend reinvestment, she should have a debt-free portfolio of $200,000 in 10 years, which would be available for a home deposit.
CASE STUDY 2: At the age of 50, Dean has paid off his home and has $75,000 to invest. His goal is to generate income of $25,000 a year in 10 years so he can move to part-time work. He borrows $175,000 for managed funds, giving him total assets of $250,000 working for him. He also chooses a 10-year P&I loan, makes a monthly loan repayment of $1850, and faithfully reinvests all dividends. After 10 years Dean should have an unencumbered portfolio of $500,000, which would produce the required income of $25,000 a year plus franking credits. He also owns a growing portfolio that will produce an increasing income over time.
The NAB product covers all bases as far as I am concerned. For years I have written about the importance of maximising the amount of quality assets you have working for you, and have stressed that conservative borrowing for growth assets is the optimum way to build wealth. Furthermore, because the interest on investment loans is tax-deductible, you enjoy valuable tax breaks.
Because of its unique nature, the risk of potentially devastating margin calls has been removed, the investor is steered towards a diversified parcel of assets managed by experts, and potential investors do not need bricks and mortar to offer as security. The cream on the cake is that currently NAB are offering an interest rate of 4.95% structured as a 2% discount to their standard rate. This is not a honeymoon rate – it is available for the life of the loan.
I will be talking more about it in Thursday’s webinar.