When should I invest on Vanguard margin?

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hungrywave
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When should I invest on Vanguard margin?

Post by hungrywave » Fri Aug 16, 2019 1:38 am

Dear Bogleheads,

I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).

Assumptions:
- 9.5% interest on the margin loan (obviously, this would be cheaper if the margin loan were larger)
- Would be investing in Vanguard Total World Stock ETF (VT) only (so, globally diversified)
- I would not be able to add cash to the account during a margin call (this is a conservative assumption - basically, I want the risk of a margin call to be very low - eg ~1%/year)

Based on Vanguard's use of P/E to forecast 10-year returns, it looks like a P/E of 10 has an expected return of about 9.5% (the assumed margin interest).

Vanguard margin calls when equity falls below 35%. If I understand this correctly, if one made one's portfolio 30% margin, one's equity would have to decrease by over 80% to receive a margin call (0.7 original equity * 0.2 return coefficient = 0.14 remaining equity. 0.14 remaining equity / 0.3 margin loan = 0.46, which is greater than the 35% equity requirement).

Thus, would a reasonable investing policy statement include adding a 30% margin loan to buy VT only when VT has a P/E less than 10 (ie during the Great Global Depression to come)? (For reference, VT's current P/E is 17.2, so VT would have to fall about 40% for this to happen.) How much margin would you use? When would you use it if not at those low P/E valuations?

Thank you! :sharebeer
The world is largely random so don't sweat the small stuff.

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Re: When should I invest on Vanguard margin?

Post by AlohaJoe » Fri Aug 16, 2019 1:46 am

hungrywave wrote:
Fri Aug 16, 2019 1:38 am
I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).
You should never use margin at Vanguard.

If you're going to use margin, switch to Interactive Brokers.

Why would you pay 9% at Vanguard when you can pay 3% at Interactive Brokers?

Lee_WSP
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Re: When should I invest on Vanguard margin?

Post by Lee_WSP » Fri Aug 16, 2019 1:47 am

Never.

Investing with money you don't own is inviting a wipeout to happen. If you invest only with money you can afford to lose, you will never be wiped out.
Last edited by Lee_WSP on Fri Aug 16, 2019 1:48 am, edited 1 time in total.

Topic Author
hungrywave
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Re: When should I invest on Vanguard margin?

Post by hungrywave » Fri Aug 16, 2019 1:48 am

AlohaJoe wrote:
Fri Aug 16, 2019 1:46 am
hungrywave wrote:
Fri Aug 16, 2019 1:38 am
I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).
You should never use margin at Vanguard.

If you're going to use margin, switch to Interactive Brokers.

Why would you pay 9% at Vanguard when you can pay 3% at Interactive Brokers?
Great question! Why is Interactive Brokers the only place with interest rates that low? It seems too good to be true. Is it a loss leader? How do they make it up?
The world is largely random so don't sweat the small stuff.

Topic Author
hungrywave
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Re: When should I invest on Vanguard margin?

Post by hungrywave » Fri Aug 16, 2019 1:49 am

Lee_WSP wrote:
Fri Aug 16, 2019 1:47 am
Never.
Not even if VT fell by 50% and I was only making my portfolio 30% margin?
The world is largely random so don't sweat the small stuff.

Topic Author
hungrywave
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Re: When should I invest on Vanguard margin?

Post by hungrywave » Fri Aug 16, 2019 1:53 am

hungrywave wrote:
Fri Aug 16, 2019 1:48 am
AlohaJoe wrote:
Fri Aug 16, 2019 1:46 am
hungrywave wrote:
Fri Aug 16, 2019 1:38 am
I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).
You should never use margin at Vanguard.

If you're going to use margin, switch to Interactive Brokers.

Why would you pay 9% at Vanguard when you can pay 3% at Interactive Brokers?
Great question! Why is Interactive Brokers the only place with interest rates that low? It seems too good to be true. Is it a loss leader? How do they make it up?
I found some answers to my question here.

Do you use Interactive Brokers, AlohaJoe, and, if so, how easy is it to trade Vanguard ETFs on there?
The world is largely random so don't sweat the small stuff.

Topic Author
hungrywave
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Re: When should I invest on Vanguard margin?

Post by hungrywave » Fri Aug 16, 2019 1:55 am

Lee_WSP wrote:
Fri Aug 16, 2019 1:47 am
Never.

Investing with money you don't own is inviting a wipeout to happen. If you invest only with money you can afford to lose, you will never be wiped out.
It seems that, with low enough margin, the risk of a wipeout is negligible (see my margin call calculation in the OP). It seems like a portfolio that is less than 20% margin is pretty safe (eg a decline greater than that seen in the US market during the great depression would be required to produce a margin call).
The world is largely random so don't sweat the small stuff.

AlohaJoe
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Re: When should I invest on Vanguard margin?

Post by AlohaJoe » Fri Aug 16, 2019 2:01 am

hungrywave wrote:
Fri Aug 16, 2019 1:53 am
hungrywave wrote:
Fri Aug 16, 2019 1:48 am
AlohaJoe wrote:
Fri Aug 16, 2019 1:46 am
hungrywave wrote:
Fri Aug 16, 2019 1:38 am
I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).
You should never use margin at Vanguard.

If you're going to use margin, switch to Interactive Brokers.

Why would you pay 9% at Vanguard when you can pay 3% at Interactive Brokers?
Great question! Why is Interactive Brokers the only place with interest rates that low? It seems too good to be true. Is it a loss leader? How do they make it up?
I found some answers to my question here.

Do you use Interactive Brokers, AlohaJoe, and, if so, how easy is it to trade Vanguard ETFs on there?
Yes, I use Interactive Brokers. Trading Vanguard ETFs is no easier or harder than trading any company's ETFs or any other exchange traded product.

Interactive Brokers is pretty clear on how they make money from margin: https://www.interactivebrokers.com/en/index.php?f=1595

They charge 1.5% over the benchmark. They borrow money at 2.1% and loan it at 3.6%. The real question is why Vanguard is charging you 9% when they can also borrow at 2.1%.

Topic Author
hungrywave
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Re: When should I invest on Vanguard margin?

Post by hungrywave » Fri Aug 16, 2019 2:04 am

AlohaJoe wrote:
Fri Aug 16, 2019 2:01 am
hungrywave wrote:
Fri Aug 16, 2019 1:53 am
hungrywave wrote:
Fri Aug 16, 2019 1:48 am
AlohaJoe wrote:
Fri Aug 16, 2019 1:46 am
hungrywave wrote:
Fri Aug 16, 2019 1:38 am
I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).
You should never use margin at Vanguard.

If you're going to use margin, switch to Interactive Brokers.

Why would you pay 9% at Vanguard when you can pay 3% at Interactive Brokers?
Great question! Why is Interactive Brokers the only place with interest rates that low? It seems too good to be true. Is it a loss leader? How do they make it up?
I found some answers to my question here.

Do you use Interactive Brokers, AlohaJoe, and, if so, how easy is it to trade Vanguard ETFs on there?
Yes, I use Interactive Brokers. Trading Vanguard ETFs is no easier or harder than trading any company's ETFs or any other exchange traded product.

Interactive Brokers is pretty clear on how they make money from margin: https://www.interactivebrokers.com/en/index.php?f=1595

They charge 1.5% over the benchmark. They borrow money at 2.1% and loan it at 3.6%. The real question is why Vanguard is charging you 9% when they can also borrow at 2.1%.
Cool! Thank you! It sounds like you are happy with your experience with Interactive Brokers. It makes me wonder whether my primary account should be with them so that I'll have access to way-cheaper margin if the time comes.
The world is largely random so don't sweat the small stuff.

HawkeyePierce
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Re: When should I invest on Vanguard margin?

Post by HawkeyePierce » Fri Aug 16, 2019 3:19 am

AlohaJoe wrote:
Fri Aug 16, 2019 2:01 am
hungrywave wrote:
Fri Aug 16, 2019 1:53 am
hungrywave wrote:
Fri Aug 16, 2019 1:48 am
AlohaJoe wrote:
Fri Aug 16, 2019 1:46 am
hungrywave wrote:
Fri Aug 16, 2019 1:38 am
I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).
You should never use margin at Vanguard.

If you're going to use margin, switch to Interactive Brokers.

Why would you pay 9% at Vanguard when you can pay 3% at Interactive Brokers?
Great question! Why is Interactive Brokers the only place with interest rates that low? It seems too good to be true. Is it a loss leader? How do they make it up?
I found some answers to my question here.

Do you use Interactive Brokers, AlohaJoe, and, if so, how easy is it to trade Vanguard ETFs on there?
Yes, I use Interactive Brokers. Trading Vanguard ETFs is no easier or harder than trading any company's ETFs or any other exchange traded product.

Interactive Brokers is pretty clear on how they make money from margin: https://www.interactivebrokers.com/en/index.php?f=1595

They charge 1.5% over the benchmark. They borrow money at 2.1% and loan it at 3.6%. The real question is why Vanguard is charging you 9% when they can also borrow at 2.1%.
Margin feels like it might be yet another product Vanguard offers but kinda wishes it didn't, so they're giving it a high price and not advertising the offering.

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Re: When should I invest on Vanguard margin?

Post by oldcomputerguy » Fri Aug 16, 2019 5:00 am

There are some members here who do invest on margin. Speaking strictly for myself, I think it's a very, very bad idea. Margin calls are one of the factors that contributed to the extreme severity of the 1929 market crash and the ensuing Great Depression. I don't recommend it.
"I’ve come around to this: If you’re dumb, surround yourself with smart people; and if you’re smart, surround yourself with smart people who disagree with you." (Aaron Sorkin)

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305pelusa
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Re: When should I invest on Vanguard margin?

Post by 305pelusa » Fri Aug 16, 2019 6:34 am

hungrywave wrote:
Fri Aug 16, 2019 1:38 am
Vanguard margin calls when equity falls below 35%. If I understand this correctly, if one made one's portfolio 30% margin, one's equity would have to decrease by over 80% to receive a margin call (0.7 original equity * 0.2 return coefficient = 0.14 remaining equity. 0.14 remaining equity / 0.3 margin loan = 0.46, which is greater than the 35% equity requirement).
No, this is incorrect. Think about it: If you brought in 70 bucks to the table, borrowed 30 bucks and invested 100 bucks total. An 80% decline would mean there's only 20 bucks left. You still owe 30, so you're -10. A margin call would happen way earlier. Your numbers apply the decrease only to your equity but the brokerage's equity loss also affects you. This is why leverage magnifies results; your equity doesn't just lose what the market loses. It also suffers from the brokerage's side.

Here's the correct math:
1) Start with a portfolio where 30% is margin (for every 7 bucks you bring, you borrow 3). This would be known as 1.42:1 leverage btw. You calculate at (1/your equity). No leverage means 1:1 leverage. Max leverage (50% equity) is 2:1 leverage.
2) I don't know what the easy formulas are but I use algebra. So there will be some market loss (x) where by your dollar equity (numerator) divided by the position dollar amount itself (denominator) will be equal to 35% (0.35). Your equity is whatever is left of the position once you subtract the dollar amount of the margin loan:
[(100*(1-x) - 30)]/[(100*(1-x)] = 0.35

Solve for x and you get 53%. Let's double check that. If you bring 7 bucks and borrow 3 to invest 10 bucks (initial margin in portfolio is 30%) and the market dips 53%, the position is worth ~47 bucks. Out of those, 30 are brokerage's and 17 are yours. 17 divided by 47 is 36%, so we know the math is correct.

Hope that helps.

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Re: When should I invest on Vanguard margin?

Post by AlohaJoe » Fri Aug 16, 2019 6:59 am

305pelusa wrote:
Fri Aug 16, 2019 6:34 am
Max leverage (50% equity) is 2:1 leverage.
Just a small correction:

Max leverage hasn't been 2:1 since Portfolio Margin was rolled out in 2008.

Even under Reg T margin, 2:1 is just the initial margin amount. I think, the maintenance margin amount is 3.3:1, so long as you're not in a concentrated position. (Or maybe there isn't even a law for it? Not sure.)

Technically, the Reg T margin amount is set by the Federal Reserve and they can change it at a moment's notice. In practice, they haven't changed it since 1974, deciding it was ineffective. (Prior to 1974 they had changed the margin amount two dozen times but a slew of academic studies came out mostly establishing managing margin was pointless.)

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305pelusa
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Re: When should I invest on Vanguard margin?

Post by 305pelusa » Fri Aug 16, 2019 7:34 am

AlohaJoe wrote:
Fri Aug 16, 2019 6:59 am
305pelusa wrote:
Fri Aug 16, 2019 6:34 am
Max leverage (50% equity) is 2:1 leverage.
Just a small correction:

Max leverage hasn't been 2:1 since Portfolio Margin was rolled out in 2008.

Even under Reg T margin, 2:1 is just the initial margin amount. I think, the maintenance margin amount is 3.3:1, so long as you're not in a concentrated position. (Or maybe there isn't even a law for it? Not sure.)

Technically, the Reg T margin amount is set by the Federal Reserve and they can change it at a moment's notice. In practice, they haven't changed it since 1974, deciding it was ineffective. (Prior to 1974 they had changed the margin amount two dozen times but a slew of academic studies came out mostly establishing managing margin was pointless.)
Yes, 2:1 is max initial leverage. After that, maintenance margin would be respected. Another way to think about the 35% maintenance is that your leverage can never exceed 2.86:1. So an initial 1.43:1 leveraged position reaches 2.86:1 leverage after a 53% market drop.

Not sure where you got 3.3:1 but perhaps others firms have lower maintenance margins than Vanguard.

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Re: When should I invest on Vanguard margin?

Post by columbia » Fri Aug 16, 2019 7:52 am

One would probably be better off waiting for the next crash and then buying a 2x or 3x stock fund at the “bottom.” The trick being able to figure out when that is.

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Re: When should I invest on Vanguard margin?

Post by Lee_WSP » Fri Aug 16, 2019 12:36 pm

hungrywave wrote:
Fri Aug 16, 2019 1:49 am
Lee_WSP wrote:
Fri Aug 16, 2019 1:47 am
Never.
Not even if VT fell by 50% and I was only making my portfolio 30% margin?
This board is very risk averse. I'm not as risk averse. However, I'm just as anti debt as the rest of the rest of this board.

If you really want to go down the high risk path, look into leveraged ETFs.

But the problem is that the market can always be worse unless society has ended. You cannot know when the bottom has occurred until it's too late to act on it.

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Re: When should I invest on Vanguard margin?

Post by SovereignInvestor » Fri Aug 16, 2019 2:43 pm

Generally even IB margin is foolish. Options are priced such that they imply borrowing at the risk free rate. If one wants leveraged long position buy deep ITM call options same great leverage but limited downside and implied borrowing at risk free rate.

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Re: When should I invest on Vanguard margin?

Post by MoneyMarathon » Fri Aug 16, 2019 2:51 pm

hungrywave wrote:
Fri Aug 16, 2019 1:38 am
Thus, would a reasonable investing policy statement include adding a 30% margin loan to buy VT only when VT has a P/E less than 10 (ie during the Great Global Depression to come)?
Most comments have been focused on:

(a) Leverage being bad
(b) Better ways of getting leverage

But most haven't really answered your question.

Yes, that's an entirely reasonable investing policy statement so long as you also state your exit condition. For example, you could put this in your IPS: "If the P/E on VT falls below 10, then increase leverage to 30% and attempt to maintain this much leverage regardless of how low P/E or the market goes. Then decrease the leverage if the P/E goes up: to 20% at a P/E of 14, to 10% at a P/E of 16, and to 0% at a P/E of 18."

Once you've stated your exit condition also, you can actually follow through on the plan, without changing things as you go.

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Re: When should I invest on Vanguard margin?

Post by 305pelusa » Fri Aug 16, 2019 7:39 pm

SovereignInvestor wrote:
Fri Aug 16, 2019 2:43 pm
Generally even IB margin is foolish. Options are priced such that they imply borrowing at the risk free rate. If one wants leveraged long position buy deep ITM call options same great leverage but limited downside and implied borrowing at risk free rate.
Options do borrow at the risk free rate but the downside protection of the calls costs on top of that too. You can get call options with 3:1 leverage at ~3.9% borrow rate. This is higher than IB but, as you mentioned, has downside protection. I agree with you that I would buy these deep in the money calls before using IB margin. If you eliminate the downside protection, you can borrow at around 1.7-1.9%, which is the 6-month T-bill rate. Much better than IB's margin.

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Re: When should I invest on Vanguard margin?

Post by whodidntante » Fri Aug 16, 2019 9:08 pm

Yes, I think it's reasonable to increase leverage when valuations are low. But doing that will make you a rare breed. Interest rates are sometimes low in a deep drawdown. But keep in in mind that earnings fall in a recession, and stocks may not look as cheap as you expect even after a significant drawdown. So you dont want your filter too stringent, if you actually want to do it.

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Re: When should I invest on Vanguard margin?

Post by White Coat Investor » Fri Aug 16, 2019 9:12 pm

hungrywave wrote:
Fri Aug 16, 2019 1:38 am
Dear Bogleheads,

I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).

Assumptions:
- 9.5% interest on the margin loan (obviously, this would be cheaper if the margin loan were larger)
- Would be investing in Vanguard Total World Stock ETF (VT) only (so, globally diversified)
- I would not be able to add cash to the account during a margin call (this is a conservative assumption - basically, I want the risk of a margin call to be very low - eg ~1%/year)

Based on Vanguard's use of P/E to forecast 10-year returns, it looks like a P/E of 10 has an expected return of about 9.5% (the assumed margin interest).

Vanguard margin calls when equity falls below 35%. If I understand this correctly, if one made one's portfolio 30% margin, one's equity would have to decrease by over 80% to receive a margin call (0.7 original equity * 0.2 return coefficient = 0.14 remaining equity. 0.14 remaining equity / 0.3 margin loan = 0.46, which is greater than the 35% equity requirement).

Thus, would a reasonable investing policy statement include adding a 30% margin loan to buy VT only when VT has a P/E less than 10 (ie during the Great Global Depression to come)? (For reference, VT's current P/E is 17.2, so VT would have to fall about 40% for this to happen.) How much margin would you use? When would you use it if not at those low P/E valuations?

Thank you! :sharebeer
First, if you're going to invest on margin, get the best rate you can at interactive brokers.

https://www.interactivebrokers.com/en/index.php?f=18069

The going rate is 3-4%.

Second, don't use margin, save more.

Third, read this thread:

viewtopic.php?t=5934
1) Invest you must 2) Time is your friend 3) Impulse is your enemy | 4) Basic arithmetic works 5) Stick to simplicity 6) Stay the course

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Re: When should I invest on Vanguard margin?

Post by ThePrince » Fri Aug 16, 2019 9:21 pm

oldcomputerguy wrote:
Fri Aug 16, 2019 5:00 am
There are some members here who do invest on margin. Speaking strictly for myself, I think it's a very, very bad idea. Margin calls are one of the factors that contributed to the extreme severity of the 1929 market crash and the ensuing Great Depression. I don't recommend it.
Bingo!

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Re: When should I invest on Vanguard margin?

Post by MoneyMarathon » Fri Aug 16, 2019 9:56 pm

whodidntante wrote:
Fri Aug 16, 2019 9:08 pm
But keep in in mind that earnings fall in a recession, and stocks may not look as cheap as you expect even after a significant drawdown. So you dont want your filter too stringent, if you actually want to do it.
Great point. P/E spiked above 40 in the dot com crash and above 100 in the great financial crisis.

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Re: When should I invest on Vanguard margin?

Post by tesuzuki2002 » Fri Aug 16, 2019 10:00 pm

hungrywave wrote:
Fri Aug 16, 2019 1:38 am
Dear Bogleheads,

I am a young investor interested in rationally and safely increasing my exposure to stocks on margin during a potential, future (very) down market. What sort of mechanical rule could I set up to invest on margin at Vanguard while reducing the risk of being margined-out (and having to sell low).



Thank you! :sharebeer


Vanguard is absolutely not the platform to use for margin investing...

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Re: When should I invest on Vanguard margin?

Post by HawkeyePierce » Fri Aug 16, 2019 10:03 pm

White Coat Investor wrote:
Fri Aug 16, 2019 9:12 pm
Second, don't use margin, save more.
Can't out-invest insufficient savings. :sharebeer

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