should you borrow money to invest
should you borrow to invest in stocks or bonds or real estate or crypto or other businesses
it's a really complicated question everyone's financial situation is different
if you stick around I'm going to discuss whether you should borrow to make investments
hey Colin Exelby CERTIFIED FINANCIAL PLANNER™ here and I own the virtual financial advisory
practice Celestial Wealth Management and we provide financial planning to business owners
and their families all over the country okay i get this question from friends family colleagues
clients all the time should you borrow money to invest it's a really complicated question
and every financial situation is different and we're going to go through a disclosure
right now because leverage can be very dangerous leverage being borrowing and unless you understand
what you're doing it's fraught with different risks but people do it all the time let's talk
about borrowing money okay when you borrow money from a credit card from a personal loan if you're
borrowing money against another asset essentially someone is giving you a sum of money now
and you agree to pay back that money over time typically with interest but not always in this low
interest rate world but typically with interest okay that's a lot of times what's called the
hurdle rate okay so you need to be investing at a rate that is higher than your hurdle rate so if
you're borrowing money at two percent it doesn't make sense to take that money and put it in
checking savings accounts and cds that are making less than two percent you want to make sure that
the investments that you're looking at over time theoretically would earn more than that money
okay so that's kind of the first thing that you want to look at when borrowing money
second thing you want to look at is what are the terms of the loan how long is that loan for
is the interest rate fixed is it adjustable does it have a balloon payment due at some
point you really want to make sure you understand the terms of the loan and the
money that you are borrowing from somebody else right you're using OPM and I talk about
using OPM efficiently in my financial planning work that I do for my clients okay but using OPM
can be very powerful to the portfolio if you understand what you're doing let's talk
a moment about leverage when you're borrowing money essentially what you're doing is you're
leveraging yourself okay you're putting a small amount of money or a smaller amount of money
and then you're borrowing a larger portion of money okay when you do that you're creating this
gap between the money you have and the money that you owe and what you're hoping is that over time
the investment whatever it is will grow to fill that gap and then exceed that gap
okay that way you can pay back the money that you borrowed from other people banks you know wherever
you got it from and still have the asset there that can provide you appreciation and cash flow
in the future okay so leverage when you use it it works in a positive way it also can
work in a negative way and this is what a lot of financial companies especially in my world
are worried about is what if you borrow money you make an investment and then you lose money
so you put some amount of money in for the investment then you borrowed money from
someone else and you're paying interest okay the investment goes down theoretically you could end
up owing more than the investment is worth that happened during the financial crisis in 2008
and the housing market that was going on at that time where a number of people ended up owing more
on the property than it was worth created all kinds of issues within the economy and within
people's personal finances but the risk is that you would have to pay back what you borrowed
with money that has to come from somewhere else because the asset isn't worth as much so leverage
it can work both ways and you want to understand that when you're borrowing to make investments
that leverage can expand things and it can also expand losses so you want to be careful about that
all right now that we understand what borrowing is and what leveraging is let's talk a little
bit about real estate let's talk about the home that you own many cases people especially with the
first or second home people will borrow money to buy that home and a lot of times the down payment
can be nothing three percent five percent ten percent twenty percent but you're putting a small
amount of money down and you're borrowing a lot of money especially at the beginning of the loan
that's providing you with this leverage one of the reasons that you see people in real estate
who are often if they're making smart decisions are profiting through real estate one of the big
components of that is the leverage because they don't have that much of their own money invested
they're borrowing other people's money to make a greater return on the small amount that they
have invested so people that talk about the great returns out of real estate a lot of
times the great returns out of real estate happen because over time properties generally appreciate
but when you're borrowing and making your money 5x or 10x or 15x you're you're multiplying that
factor so say for example you invested 10 000 and you bought a hundred thousand dollar property
right you put down ten percent that means ninety percent of that asset in the in the beginning is
coming from OPM other people's money over time what you hope is as you pay down that mortgage
the value your equity goes up over time and as the property appreciates your equity goes up over time
so what happens if 10 years down the road you now have a property that's worth $150,000 and you've
paid down some of that principle so instead of owing $90,000 you owe $80,000 okay say you
sell that property $150,000 you net out of it we'll assume that there's no closing costs but we always
know that there are you get $150,000 you pay off the $80,000 mortgage that leaves you with $70,000
what did you start with 10. and what did you pay into it in principle over those 10 years another
10. so you invested total over that 10-year period 20,000 plus the interest and you just made all
that money on the property how much of that was due to appreciation and how much of that was due
to the leverage that you had when investing in real estate and it's your own primary home
typically nobody has a problem with it as long as you can provide the financials showing that
you can do it when you invest in a second home or an investment property the lending standards
are a little bit more stringent you typically have to put a little bit more money down but
you still benefit from that leverage factor and if you're getting a 30-year loan you've got time
to weather any storm that happens in a financial markets you know the real estate property it may
not go up all the time it may go down sometimes but over time it gives you the ability to weather
storms have that property potentially appreciate hey guys what's up today is the day the brand
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let's talk about borrowing money to fund a business a lot of times people will start a
business they have a great idea they get it going it's doing well and then they want to expand
so they look for a partner opm to borrow money so they can grow the business whether
it's advertising hiring more people buying more inventory improving their processes and systems
what they're doing is they're leveraging their asset which is the business to create a larger
business that will grow even faster now when you're leveraging there's risk because what if
you borrow the money and then the economy goes down and you need to fire the employees well now
you've you're out that money or if you borrow the money for advertising the advertising doesn't work
well that's a downside for that too but typically if you're borrowing money into a business
and the business is successful that can help you grow even faster okay but you've got to understand
the terms of the loan when that money is due what the interest rate is if there's any balloon
payments that are within it and make sure that if you're borrowing the money to fund your business
that whatever strategy you're employing you make sure it's aligned with the terms of the loan
what do i mean by that well you typically don't want to borrow short term money that you've got
to return really quickly if your growth strategy is a one,two or three-year play you want to have
a longer term loan that will allow that strategy to pay out because when you invest money typically
it takes time for that to pay back make sense okay now let's talk about borrowing money to
invest in the financial markets with that we'll talk about stocks bonds and crypto currencies
when you're emboldened to take more risk a lot of times you do less due diligence and that's
where those big mistakes can happen so in my industry what the industry has generally said
is that you can't borrow money from credit cards or your home to invest into the stock
market and the reason is then you're putting your home or your personal assets as collateral
essentially against your investments in the stock market I've always wondered about this because
you know in other videos you see me show stats where over 20 years or over 30 years
the stock market hasn't had a negative 20-year period and it's been positive over 30 years
and you know if you've got a 30-year mortgage on a real estate property and you're allowing
that to go up and down over time why don't we allow that on in the stock market like you know
what's holding us back there's it doesn't seem to match up to me I'm not endorsing this or saying
that people should do this and in my industry again we have to ask where money comes from
when clients give us more money and if it's coming from a home equity line or loan or a mortgage or
a credit card we're not allowed to accept it i just don't know the really that that rule makes
a whole lot of sense if you're investing for the long term when markets go up be that as it may
what about investing in crypto same rules apply except crypto's a more volatile asset
so borrowing money to put it into crypto yeah you might think okay as long as i can hold this
for two three four years it'll be worth a heck of a lot more well that's because in the recent past
crypto has done pretty well it's been very very volatile with falling multiple times fifty percent
but over the last three to four years it has increased significantly so people feel like
you know what in order to get better returns I can borrow money from
friends from family from banks from personal loans and then I can invest even more in crypto
okay if you have a time horizon that's long enough and the money doesn't have
to be paid back quickly that can really benefit you over time however if that loan does come due
and crypto happens to be down at that time you may have a problem you may have to sell
when you don't really want to in order to get the funds to pay back the money that you borrowed so
there are risks involved in significant ones but i also don't understand why in real estate it's
not frowned upon to borrow money to invest into property i guess it's because it's a tangible
thing that you can see like the building that i'm surrounded by and maybe crypto and stocks
are more opaque because they're kind of numbers moving on a screen or on a statement or something
like that you can't really like grab them essentially so maybe the regulators think that
inherently that's more risky but it seems to me it's kind of the same thing so you know bottom
line if you're going to borrow to invest in anything number one know the terms of the loan
know when it is due know what the interest rate is and what the fluctuations are within that and
create an investment strategy around that terms of that loan okay number two know that leverage works
both ways leverage can amplify returns on the way up and they can make them way worse on the way
down as long as you understand what you're getting into and you do your due diligence over time that
leverage can generally work in your favor because the us economy over time has tended to move higher
that's what i got on investing with borrowed money be careful now if you have any comments
that you'd like to add or share any stories about what you did to borrow money and how much money
you made or lost in doing that please do so in the comments below and make sure you like this video
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