Betting the Ranch: Risking Your Home to Buy Securities

With a rising stock market, record low interest rates, and large gains in home value, some investors have taken out new mortgages, refinanced, or obtained line-of-credits secured by their homes for the specific purpose of investing in securities. The hope is that the investment will not only pay the mortgage, but also generate additional income. Unfortunately, it doesn’t always work out that way.

Investors who must rely on investment returns to make their mortgage payments could end up defaulting on their home loans if their investments decline and they are unable to meet their monthly mortgage payments. In short, investors who bet the ranch could lose it.

This alert outlines the risks involved in playing the market with the equity in your home and offers advice to consider before making such an investment decision.

Your Risk is Compounded

There is risk to principal when you invest in virtually any security. Taking money out of your house to buy securities compounds your risk for the following reasons:

* When you buy securities with mortgage money, you are investing with borrowed funds. While this increases your buying power, it also increases your exposure to market risk, similar to buying securities on margin. The difference is your mortgage loan is likely to be greater than any amount a securities firm would loan you on margin. Investing borrowed mortgage money amounts to a huge bet that the investment will increase.
* Unlike investing with savings, when you invest with mortgage money, you stand to lose more than your principal if the investment goes sour. You can lose the collateral supporting the loan�namely your house. Even if you don’t lose your house, you could lose the equity in your home that may have built up over a considerable period of time.
* You may put your money in higher risk investments than you might normally select, in an effort not only to match the rate of your home loan but in the hopes of surpassing this rate. Furthermore, with so much at stake, if a given investment does poorly, you may feel compelled to move your investment into even more risky investments to make up the difference, further jeopardizing your home, credit standing, and overall financial health.

How to Avoid Losing Your Home

If your broker recommends this strategy, it comes down to one very simple question. Before taking out a mortgage or refinancing to invest in securities, ask yourself: How will I pay for my mortgage or loan if my investments decline? Do you have a secure salary or reserve funds to make mortgage payments if your investments lose value?

If the answer is no�just say no to betting the ranch to invest in securities.

Source: NASD