Loan Stock

  

See: Margin.

When stock is loaned, it's essentially collateral against which investors borrow to buy more stock or bonds, or just make other investments.

Related or Semi-related Video

Finance: What Does It Mean to "Buy on Ma...20 Views

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Finance, a la shmoop. What does it mean to buy on margin? Whoa, okay enough of that

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yeah. That was buying on margarine but okay yeah that was a stretch, buying on [Guy sliding around with blocks of margarine on his feet]

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margin is something totally different. Well margin just means debt or a loan or [Guy in a hospital bed]

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credit and this buying on margin usually refers to an investor buying stocks,

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pledging their portfolio as collateral in making that purchase. (Illustrative example time).

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Grete Greedmonger has a hundred million dollar portfolio filled with very conservative [Greta stood next to a list of her holdings]

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stocks comprising ninety percent of it or ninety million bucks and she has 10

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million in cash. Well Greta, tired of flying in her measly small jet wants to [Greta's jet in the sky]

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be able to afford a really big jet like the kind of the truly wealthy fly like [Warren Buffet and Bill Gates walking up to the bigger jet]

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you know those guys. She wants to be in the billionaire's Club and your [Greta sat in the Billionare's club bar]

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membership card gets you a great discount on private planes, so you know

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like why not. Well anyway she's impatient to just let her stocks compound away and

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get there quote naturally unquote at the 8% a year or so compound growth rate [The value of Greta's investment shown after each 5 years]

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that they kind of have shown last a few decades. Well she wants to add gasoline

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to the relatively slow burning embers of her portfolio and speed up her compound [Pouring gasoline over a fire]

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rate to get to billionaire status from her current hundred millionaire status [The value is shown to be almost 2 billion in 10 years]

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you know and by a G6 and that plan can't possibly backfire right.. So she bets big [Greta's big jet falls out the sky]

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on a few stocks believing that she has a solid understanding of the stock market. [Greta buying amazon stock]

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Specifically she wants to invest 40 million dollars in Amazon, currently

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trading at 2000 bucks a share well she only has 10 million in cash. Well how can

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she buy 40 million dollars when she only has 10. Well she could sell 30 million [Greta holding a big sack of stocks]

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dollars worth of her stock unfortunately though those stocks were acquired years [The broker has a big sack of money]

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ago at a very low price, so if she sold them she would pay massive tax bills and in [The money the broker pays is taxed]

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fact to generate 30 million dollars of net after-tax cash she'd probably have [The tax calculation is shown]

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to sell something north of 50 million dollars of stock to pay for

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it and that's way too high a price in taxes to pay to be worth making the sale [Greta runs away with her stocks]

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at all. So instead she borrows money to invest that 40 million bucks, only she [Greta getting the borrowed money and buying Amazon stock with it]

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borrows it on margin, meaning she is borrowing that money from herself she

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has 90 million dollars in stocks and 10 million in cash and needs another 30

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million beyond the cash she already has to buy that 40 million of Amazon right. Well her

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account at Schwab is already set up as a margin account or margin style account, [Definition of a margin account shown on a 100 dollar bill]

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meaning that she has already signed a bunch papers stating that she understands the

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margin rules the brokerage and the biggest rule is that the maximum margin [The rule is highlighted on the contract]

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she's allowed to take in her account is 50 percent, five zero. So with her account

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value at 100 million the most she could borrow would be 50 million bucks and [Margin limit calculation is shown]

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there's that little dangerous voice whispering in her ear and well there [Devil version of Greta in her ear]

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might be another voice telling her to just spend a few bucks on jet skis and [Angel version of Greta in her other ear]

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vacations instead of that big jet and she just ignores that one and that's [Greta flicks the angel away]

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good because otherwise we wouldn't have this video for you. So if she needs 40

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million bucks to invest in Amazon she'll use up her ten millio in cash

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and then take out a margin loan of thirty million dollars against herself.

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Her account will have a hundred thirty million dollars in equities in it and 30 [Greta's holdings are shown]

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million dollars of debt and no cash and that cash that she's borrowed carries

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interest charges that is in return for borrowing money from herself she will [Greta paying Schwab]

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pay Schwab a few percent a year in interests. That's nice high margin business for

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Schwab because the money to them is almost free so all is good until she

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decides she wants to put 20 million into Netflix as well all on margin so now she [Greta is watching Netflix on her TV]

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has fifty million dollars in margin in an account with a hundred fifty million

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in equities and 50 million in debt so note that her base hundred million

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dollars in value and equity has not changed since the beginning of this [The value of the portfolio is shown]

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awesome story only now she has a hundred fifty million in investments in that

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account and fifty million of debt so if the portfolio goes up 10 percent she'll

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show gains of 15 million versus a situation where if she hadn't done any

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with margin while that gain of 10% would have given her just 10 million in gains [The with and without margin gain calculations]

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right, 10 percent of 100 million invested vs. 10 percent of 150 million invested.

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And yes she'll be paying say 4 percent interest now on the 50 million she

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borrowed or about 2 million a year to rent that money from herself it's really

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Schwab kind of fronting the cash for her using her portfolio as collateral. So all [Schwab demanding that she pay back the loan]

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is great she's thinking about the upholstery color in her g5 and then a

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bomb goes off in North Korea and well all bets are off the stock market freaks [Explosion]

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out printing down 20% in a short period with the high octane names like Amazon

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and Netflix trading down even more and all the sudden 150 million dollars in

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value in her portfolio is cut 40% such that the 150 million dollars is now [The loss on Greta's holings is shown]

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worth only 90 million and that's a really big problem. Why? Because she still

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has 50 million bucks in margin loans on the account and the brokerage has a max

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50% limit that is, clients cannot borrow more than half of their portfolio.

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Because it's just too risky for Schwab to have to potentially bear the burden [Guy holding sacks full of I.O.U.s falls over]

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of making the margin whole on that account like if the market then really

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tanks like if it went down another 30 or 40 percent you can imagine it would be [Stock chart showing price going even lower]

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worth less than 50 million dollars which is the debt that they have [Combined stock value going down]

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outstanding and then it's really bad and Schwab could go bankrupt really fast. So [Money disappearing from Schwab vault]

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Schwab sends her a kindly loving nasty gram requiring her within 24 hours to [Schwab sending an email telling her to pay or never see you precious portfolio again]

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inject 10 million dollars of capital into that margin account to quote true

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it up unquote to be at least a hundred million dollars in value like she could

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wire in 10 million bucks that says sitting around in her BofA account [Greta using an ATM]

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to make it whole and in that case her margin account would go down from 50

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million to 40 million on an account that would have just gone from 90 million to [Greta's holdings are shown]

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a hundred million dollars and she'd be just fine. So that's 40 million bucks of

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margin on a hundred million dollars of an account value and it's ten points

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below the red line threshold of that 50% maximum [Greta's margin level is calculated]

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margin limit. Only problem, she doesn't have 10 million dollars in her BofA

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account just sitting around. So what else can she do well she'll have to sell

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stock in her Schwab account to meet her margin requirements and you can see what [Greta at her stock for sale stand]

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a vicious spiral this is gonna become and if she won't proactively call in the

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orders herself well then Schwab has the right to step in and sell

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them for her and Schwab won't care a whole lot about whether they're making [Schwab guy selling Greta's stock at any price]

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smart sales or not they just need the margin minimums met right away and oh by

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the way she'll pay taxes on those Schwab sales if there were gains on them and [The stock sale being taxed]

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then the IRS is coming after her for dough later so it gets really ugly and [IRS taking money from Greta]

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yes you can imagine that if a whole lot of people were caught in the margin [The word margin being squeezed by two hands]

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squeeze like this in a bad market where they got more greedy than fearful and a [Guy in a suit running around]

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whole lot of brokerages put in sell mortimer, sell, at market orders well that [Guy in a suit waving his arms around]

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the whole system would cave in on itself with massive supplies of stock for [The broker collapses]

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relatively little demand and well that's how stock markets crash and that's why [Big sack of stock and only 1 person left to buy]

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brokerages have you know typically 50 ish percent margin kind of limits at

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least for retail investors. And the general goal of the G-man here is to you

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know, avoid such a slippery set of circumstances and maybe she should just [Guy wants to use a block of margarine as a sled]

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get used to flying commercial. [Greta looks unhappy on a commercial flight]

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