Canadians are taking a gamble and borrowing money at historically low rates not to fuel an excessive lifestyle, but to invest in the stock market. It's a strategy one financial planner warns isn't for everyone, and even seasoned investors can see things go wrong.
The Bank of Canada recently lowered its benchmark lending rate by 25 basis points for the second time this year. Canada's major banks partially followed suit and lowered their prime lending rates to 2.7%.
These changes caused the rates for already low variable-rate mortgages, as well as home equity and personal lines of credit, to fall.
The low rates prompted Harry, an Albertan in his 40s who requested his last name not be used for privacy reasons, to look at his $100,000 home equity line of credit, or HELOC, a different way.
He plans to use that money over the next several years to maximize his unused RRSP contribution room. He's withdrawn funds from his HELOC before to pay for a few vacations, but this will be his first time borrowing the money for investments.
Harry plans to use his annual tax returns as large, lump-sum payments against the loan, while paying down the remaining balance at a low 2.2% interest rate.
Last year, he made $75,000 — or more than his graphic designer salary, which pays $25 an hour — from his investments.
While the strategy looks appealing on paper, it's certainly not a good fit for everyone, says Jason Abbott, the principal financial planner at WealthDesigns.ca and a member of the Financial Advisors Association of Canada.
He's borrowed money in this way before and his first attempt wasn't too successful. He chalks it up to bad timing. Abbott invested the money in late 2008 "when the market had dropped substantially, but before it still had more to fall."
Novices to investing are better off focusing on growing their net worth through more traditional methods, he says, because they don't have the experience to handle this strategy.
A simple market correction can make the investment worth less than the loan, he says. Usually, a newbie will panic, sell and try to pay back the loan in another way.
Things can also go south if the person's cash flow hits a setback and they can't make their monthly loan payments.
