August 24, 2011, 5:00 am

How To Know When To Borrow

by: The Financial Blogger    Category: Leveraging Strategies
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borrow moneySome people will think that I’m crazy but I did it again! I took out another loan. But don’t worry, I’m not taking a real loan and it’s not to finance my lifestyle. I’m taking a $10,000 RRSP loan (loan used to contribute to my retirement plan) to benefit from the dip in the markets. I was a bit slow to get it so I only started investing on August 12th. However, there was some damage done on the market and since I was going to invest $10K from my bonus in January for my RRSP contribution, I’m just doing it 5 months in advance as I think it’s good timing!

 

Since maximizing my RRSP is one of my financial priorities, the first thing I always do with my year-end bonus is to maximize my retirement account. Since I’m allowed, I know that my first 10K of bonus will go towards my investment account. The only difference is that, right now, I have a great chance of making a better return. I’ll be detailing my trading moves on The Dividend Guy Blog but I wanted to discuss the leverage strategy here. Why? Because leveraging is one of the most powerful tools used to reach financial independence.

 

I recently discussed how Uncle Sam is helping us make money. This is why I have decided to put my money where my mouth is and to benefit from the situation. The stock market has gone down on government debt concerns. This is why successful companies with strong balance sheets are declining in price for no sound reason. This looks like the perfect time to jump into some dividend investing!

 

How to know when to borrow?

I’m a big fan of leveraging, you know that. However, there is always a good time to borrow. And this is quite easy to know when you should make the move:

a)      Interest rates must be low with a reasonable perspective that it will stay low

b)      There must be an opportunity in a market that you understand

c)       You must have a repayment plan before borrowing

If you can combine these 3 factors, you have a winning situation to borrow. As the interest rates in both Canada and United States will likely remain at a low level for a year or two, you already have the first factor as a given.

 

Then, you must find opportunities in something that you understand. If you have no clue how the stock market works, it might not be a good idea to jump in blindfolded… it may hurt! However, you can also check out the real estate side. The fact that interest rates are low makes investing in real estate easier. The key here is to know what you are talking about so you can really determine if there is an opportunity or not!

 

Finally, you must know how you will reimburse your leverage. Many people borrow money expecting their investments to repay the loan. This is always a poor strategy. Why? Because even if you know what you are talking about, there is always a chance that you could be wrong. For example, right now, I think we are in the middle of a small dip in the market. However, I could be wrong and the market could continue to go down for several months. If I was expecting to make a quick buck from the market and payback my loan in 6 months, I would be in trouble. Yet in my actual situation, I know that I will have a bonus of around $30-40K. Therefore, borrowing 10K upfront is not such a big deal.

 

Don’t look back

Once you have planned your leveraging strategy, don’t look at your debt and investments all the time. Stop doing the match up of what you owe with what you have made. Most opportunities come with fluctuation and volatility. You don’t want to second guess your moves. Just wait a few months before you take any actions. In fact, once your leverage strategy is in place, you should be able to hold onto it for several years. If you invest aiming to make a quick buck, think again; leverage is not for you!

 

Are you going to borrow to invest in the market?

What do you think of this strategy? Are you looking to leverage the market?

 

 

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Comments

[...] my other blog, The Financial Blogger, I discussed why I am borrowing $10,000 to invest in such a volatile market. Since the market has gone crazy over the past 4 months, I’ve decided to accelerate my investing [...]

by: OttawaGuy | August 24th, 2011 (8:08 am)

Hey Mike,

Is there both a tax hit (for withdrawing from your RRSP) and a tax benefit (for investing it) on the 10K you borrowed?

I know dividends are tax friendly but I’d like to know the tax impact of this move.

Thanks!

I’m actually doing a RRSP loan to invest in my RRSP and I won’t withdraw to pay it back.

In January, I’ll receive my year-end bonus which will be used to pay off my RRSP loan instead of being used to contribute in my RRSP account. I’m just investing right now instead of waiting 5 months to do it because I think there is a great opportunity right now to buy great stocks at a low price :-)

I don’t think there’s anything wrong with short-term borrowing, especially it’s for your RRSPs.

If you know you will pay off the balance and at the same time take advantage of some potential gems in the market, why not?

Before the RRSP contribution deadline passed for this past tax year, I hashed out all of my numbers for a second time and found out that I could invest another couple of thousands dollars so that I wouldn’t have to pay in taxes. I think I ended up having to pay $28 in taxes. I borrowed on a temporary basis from my LOC and paid it off in full shortly after.

Nice post!

i’m totally with you on this – care to share the stocks you picked? i’ve never been a stock picker – more a long term value investor, but you are right it appears that there are some very good deals to be made… interested in your thoughts?

[...] Financial Blogger posted, “How To Know When To Borrow” [...]

Definitely the perfect conditions! Well done.

Hmmm, isn’t the RRSP supposed to be invested already?

Ie I can borrow from my 401k and pay back, but the 401k is already an investment vehicle. Why not just invest within that vehicle?

@Sunil,
I’ve described them on The Dividend Guy Blog:
KO (NYSE), T (TSE), VNP (TSE), INTC (NASDAQ)

@Same,
in Canada, we don’t have the 401k, we have RRSP (stands for Registered Retirement Saving Plan). I’ve taken a loan to do my 2011 contribution (which is usually done at the beginning of next year (we have until the end of February of the following year to contribute). Since I receive my year-end bonus in January, I always do my RRSP contribution at that time.