That’s the way it is with the markets. They go up and they go down. But the fact is that despite the recurring crises with Slavic regularity, the value of the stock exchanges over time is almost always growing.
Always in fact if you count very many listed securities. After all, we have become richer in the last 50 years, regardless of what the old people say it was better in the past.
Invest on the stock exchange
Today, the world’s stock exchanges are linked in a completely different way than they were before. Through your local bank, you can invest in almost anything and almost anywhere. There is no stopping the creativity of those who construct financial instruments. This is something that we shall return to for this lies a great danger.
If you have a strong interest in the stock exchange, it may very well be that you have already bought some shares and that you have also started trading in these shares. You buy and sell. Sometimes you make profits and sometimes you make losses, but over time things may go well and your portfolio grows. Your confidence grows and you may want to put in even more money and you do too. The portfolio continues to grow over time even if you have some bad deals in the baggage.
When discussing securities, we must discuss risks and we must also discuss interest rates. Interest and risk are two very important factors in how the securities market works. The interest rate is the price of money. Interest is what you pay to access money. In Sweden, the interest rate is set by the Risk Bank as the interest rate that the banks may pay to borrow money from the Goodbank. The Goodbank, in turn, also borrows money from companies, banks and private individuals in Sweden. These loans are called government bonds, or Treasury bills. One can of course argue that the Kingdom of Sweden is not a fully secure payer and that these bonds also contain a risk and certainly it is, but this risk is very low compared to almost all other risks. It takes a lot for the company Sverige AB to go bankrupt. This is why so many people regard bonds as largely risk-free.
What do the bonds now have to do with your portfolio? You are on the stock exchange and not in the bond market. Well, that’s the thing. If you invest on the stock exchange, in order to be considered a business worth the name, it must yield a return that is higher than the one you can get by lending money to the state – which is what you do if you buy a bond. There is no point in taking risks if you can get the same results without risks.
So first and foremost, a positive result on the stock exchange is not positive just because you go plus, no you have to go more plus than you can get for a bond. Your portfolio on the riskier stock market must yield better returns than is the case in the risk-free bond market. An interesting opportunity is emerging here.
The interest rate on loans is lower than the growth in your portfolio
Let’s say you have higher growth in your stock portfolio than what the interest rate on a bond is. Then it is worth the risk that you invest in the stock exchange instead of risk-free bonds. But the banks’ interest rates then? After all, the banks’ interest rates are often slightly higher than the bond rate. That’s how the banks make their money – on the interest margin.
But let’s say that over time you have better growth in your stock market portfolio than the banks take in interest. Say you can borrow money from a bank for five percent while having a seven percent annual growth in your stock portfolio over the past five years. There we have a two percent gap.
This is where the opportunity arises. You can now borrow money at five per cent interest and then invest them on the stock exchange and get a seven per cent return. After you pay your interest, you have two percent left. You’ve found a money machine. Absolutely incredible that no one thought of this before. Here you just have to borrow money and put them on the stock exchange and then say thank you for the coffee.
Now, though, you may not be the first to think of this after all. Borrowing to invest in the markets is nothing new and unfortunately these are investments that have created the worst financial meltdowns the world has ever seen.