Should you make use of a personal loan in order to invest in the stock market?
There are a number of questions floating around regarding stock investments which all revolve around a single theme and that theme is whether it is okay to take a personal loan and use that amount to invest in the stock market. The short answer is, “It is not the best idea”. That is, you would be better off not investing money from personal loans into stocks. But, making planned investments in the stock market that increase incrementally, taking into account a number of factors will work. In order to do that, you will require information regarding indices like the NIFTY 50, NIFTY 100 and NIFTY 200, and information about individual stocks for all of which you can refer to BankBazaar.
Why it is not advisable to opt for a personal loan to invest in stocks
Given here are some of the reasons why it is not advisable to make use of a personal to invest in stocks.
Stocks are inherently volatile
There is no guarantee of how they will perform within a given time period. Therefore, there is a definite risk that the investment may not give you a high return, especially if you are looking at it in the short-term. Also, there is the added risk of there being a fall in the market leading to a loss in your investment. If you plan on repaying the loan with the returns from the investment and there is a loss in your investment, you might find it difficult to make up for the loss and also repay the loan amount.
Interest rates for personal loans are usually higher
Additionally, the interest rates for a personal loan are usually much higher than the interest rates for other types of loans. Thus, if you take a loan of a certain amount with an interest rate of say, 12% which is usually the minimum for personal loans in India, you will have to invest in stocks in such a way that you get a return that is greater than 12%. This is assuming you want to close the loan using the returns from the stock investments. If you get a return of 12%, then you will be breaking even, nullifying your profit. If you get a return of less than 12% then you will be sustaining a loss on your investment and the loan. Since markets are volatile, especially over the short term, there is almost no guarantee that you can make your money back. Therefore, keep in mind that interest rates for personal loans are usually higher. Another thing to note is that interest rates can sometimes increase during the tenure of a loan, therefore, take into account that also while planning.
While these are two main considerations, there is also another factor to take note of. Your loan tenure and the timeline you have fixed for returns from your investments. If they do not match, then you will have trouble in closing your loan with the returns on the investments.
If you have other debt, do not take out a loan to invest in the stock market
All of these come down to the same point. Stocks are volatile and that no one knows how they will move on a given day. Thus, you would be better served by not investing your loan money into it. If you have other debt, do not increase your debt burden by taking a personal loan, especially because personal loan interest rates tend to be higher. And in this case, even if you are forced to take a personal loan, do not invest any of that loan money into the stock market hoping to close all your loans with the returns on the investment from the stock market.
In what scenario can I invest in stocks using money from a personal loan?
If you have taken into account everything and still want to go ahead with your stock investment using money from a loan, these are some of the ways you can do it to minimize your risk.
- Make sure the loan amount is less. This way, even if your returns are not as high as you want, your exposure will still be less. Take a loan for an amount that you can cover anyway.
- Make sure that you are not dependent on the returns from your stock investment to close the loan.
- Check your personal risk appetite and see if that allows you to risk a certain amount of money.
- Check to see if you have no other major commitments that require a steady supply of cash.
- Make sure you invest only disposable income.
- Check to see if you have enough money to take care of your monthly expenses and daily needs and other steadier, safer investments and then invest the rest in the stock market.
- Do not invest all your money into similar stocks. Make sure to have a wide portfolio that includes a number of different stocks with a variety of risk profiles. This will help reduce your exposure.
- Make sure you have a way to close the personal loan even if your investment tanks.
While it may not be the best of ideas to invest money from a personal loan into stocks, it is not unheard of the method. You, as an investor, need to be aware of the risks that come with investing in the stock market. More so if you are taking a loan for this. As long as you are sure that you can cover the loan with other sources of income, you should be fine taking a loan. But this is not advisable when you are already under heavy debt burden. Therefore, consider your position carefully. To do this, you can take the help of a finance professional such as a wealth management advisor who may give you clarity on what your options are.
The contents of this article do not constitute financial or other professional advice nor does it imply in any manner a principal-agent relationship, and is not a professional advice on a particular financial matter.