Sharemarket volatility increases margin lending risk

An article in today’s Australian Financial Review may be of some interest to those who are looking to take advantage of on-line services offering margin lending products.

The Australian Securities and Investments Commission (ASIC) warns that when contemplating margin lending consumers should remember that when the value of an investment falls, losses are magnified if they have borrowed to invest.

When a margin call is made the borrower must place funds into the loan account or needs to liquidate some assets. Therein lies the risk in this type of negative equity – where the value of the loan exceeds the value of the shares is dependent on the volatility of the market.

Commonwealth Securities is entrenched at the head of the pack as Australia’s biggest on-line lender and since launching last year has increased its margin lending book to approximately $200 million. Head of ComSec, Mr Paul Rickard, notes that whilst risk mitigation and the actual loan application process has not changed, the internet has replaced the telephone. Consequently it is easier for people to place and execute their orders.

BT Funds Management head of margin lending Ms Gillian O’Molloy agreed with ASIC concerns that borrowers obtaining loans direct from the net may not fully understand the risks. Independent financial advice / planning should be sought and is recommended. Now that the market is volatile, she says, consumers now may face the risk of a margin call.

As the sharemarket has fallen about 2.3% this month, BT has made about 40 such calls on a $1 billion loan book this month (average gearing level 42%). ComSec claims to have made margin calls to less than one per cent of its client base (average gearing level 42%), whilst 50 % of Leveraged Equities clients have experienced margin calls (average gearing level 57%).

The popularity of this form of investing is evidenced by the rise in investor debt of more than $1 billion over the last year. In light of this popularity the ASIC has taken a very positive step in attempting remind consumers that whilst products come and go – fundamentals never change.