Photo taken in Nov 2015, Italy, Pisa – The Leaning Tower of Pisa
I met this client two seminar ago, Age 63, married male and has retired since 60. He has about $250,000 in cash and investment with 4 other banks with total of $2.5 million. All his bankers recommended him to leverage his investments ranging from $400K to $800K. The total loan exposure my client is at $2.2 million with a total investment value of $4.7 million. Most of the investment is in Structured Deposit and some Unit Trust Funds.
Leverage is a double-edged sword, as I explain to him, when things go your way, leverage will magnify your gains. However, when things go against you, leverage will magnify your losses.
I have put up a case scenario below for this client to have a better understanding on the risk he is taking. More importantly is – Can he sleep well after my explanation?
Case Scenario :-
His Original Investment
His Loan (@1.8% p.a Interest Rate)
His total investment exposure
If economy head south and his total investment of $4.7 mil is down by 40% to $2,820,000, the banks would probably ask for Margin Call. Presuming that he could not top-up his margin, the bankers will proceed to sell off all his holding to recover their $2.2 million they loan him.
Eventually what this client gets back from all the risk he is taking is only $620,000 ($2,820,000 – $2,200,000 = $620,000) out of his initial investment of $2.5 million (or a total loss of 75.2%).
Lenders do not care about how much money you lose, they are only concern about their own interest. That’s why they set margin call for all the investment loans they issue. So that if your investment fail, they can recover their loans from you promptly to minimise or avoid any losses they may suffer.
I have since reallocated this client’s portfolio and now his is enjoying a yearly retirement income of $88,000 and in 5 years-time he will be getting a total of about $130,000 per year of retirement income.
His present portfolio consists of about 50% invested in relative safe investment products which has 80% to 100% guaranteed in principal and 30% in our Dividend Portfolio. I have also set-aside $300,000 for this client to do his personal investment, since he likes to trade stocks and invest in Structured Deposit. The balance is held in cash as emergency reserve fund.
With this asset allocation, my client can sleep well during an economic recession and I will always be available and ready to work with him closely to ride through any difficult times.
On the other hand, bankers could have gotten retrenched during a recession and even if your banker have the heart to work with you on your investments, they will most likely be helpless.