Posted by Tim Stobbs on November 14, 2007
With the recent drop in the US and Canada stock markets I’m starting to get ideas. Should I get into leverage investing? After all I can borrow money from a secure line of credit at prime it doesn’t take much a dividend income for me to break even on my interest costs and if you toss in an income trust it gets even easier.
So I’ve been seriously considering dipping my toes into this idea with a smaller amount of money, like around $3000 to $5000 to start. The idea is to get a feel if I’m comfortable with doing this, while keeping the interest payments low enough that I can manage them regardless what happens in the near future.
Some possible targets include one my wife likes EIT.UN, which closed yesterday at $5.44 and has a distribution yield of 15.4% and a P/E of 10.67. I like that fact this trust is really a collection of other income trusts with solid yields and good core business for the most part. Yes there is a management fee of 1.32% on the units, but in this case I’ve noticed management seem to actually earn their keep by avoiding most of the questionable trusts out there.
Another possible target is BMO, which closed yesterday at $58.03 with a dividend yield of 4.8% and a P/E of 12.66. As one of the big Canadian banks they have a solid history of making a profit, even with a few investment losses in a last few years.
In order to truly assess if this is a good idea for you have to keep the following in mind:
- Taxes. If you want to write off the interest of your loan at tax time you MUST invest in a taxable account or the Canada Revenue Agency is going to not allow your deduction on your tax return. Therefore you need to know you tax rates for various sources of income to see if you are really making a profit on a after tax basis.
- You must be able to produce a positive cash flow. Otherwise you are just fooling yourself into thinking your better at investing then you really are. The point of leverage investing is to have someone else pay you enough money to slowly buy their stock and pay your interest on the money you borrowed from someone else.
- You must be able to cover the interest costs from your regular cash flow. If something goes wrong an a company cuts their distribution or dividend you need to be able to afford to hold onto the stock long enough to try and get some of your money back.
- You must be able to sleep well at night with the risk involved. If you just feel sick thinking about borrowing money to invest you need to find other ways to earn money. This is a personal comfort issue, which I’m a little unsure of myself. Hence I’m going to keep the amounts small and double-check my numbers before I buy anything.
- You must do your own research before investing. Don’t trust my ideas or anyone else until you’ve look at the company yourself and decided if you want to own a part of them. You can’t skip your homework when you are borrowing the money to invest.
I would appreciate feedback from others who have done this before and what they thought of it. Was it worth it? Were you comfortable with it? Any regrets?