Disclaimer: All investments are considered high risk. Therefore, you should consult a professional before investing in anything. This article and its content are for general information purposes only and do not constitute financial advice in any way.
The impressive performance of stock markets, coupled with increased smartphone usage, easy accessibility, raising awareness, etc., has led to the enormous growth of investors in India. According to the data provided by the depositories, the number of active trading accounts in the country has increased by 63% YoY to 89.7 million in FY 2021-22. In fact, the data on new demat account opening stood at 2 million every month since 2020.
The attractive returns generated by the stock markets may compel an individual to take out a personal loan for investing purposes. This may seem like a foolproof plan to build immense wealth as returns on equity markets typically outperform the other investment choices. However, though this is an option, investing using a personal loan carries significant risk.
In this article, we will try to understand whether you should fund your stock market investments with a personal loan.
Consider these factors before taking a personal loan to invest in stock markets.
Your CIBIL score will determine the rate at which your personal loan can be availed. The higher the CIBIL score, the lower the interest rate will be. With a CIBIL score of 750+, you will have a better chance of securing the lender’s lowest interest rate. In addition to the interest rate, the CIBIL score also affects the approved loan amount.
Features of Personal Loan:
Personal loans are unsecured loans that have flexible end uses. Due to their unsecured nature, personal loans charge higher interest rates than their secured loan counterparts. The rate charged increases proportionally to the tenure of the loan. If an investor is investing long-term to ensure higher, less-volatile returns using a personal loan, the interest payments would also exceed accordingly. This would diminish the potential profit.
Personal loans have a fixed term, meaning you have a set period to pay off your loans. This is unlike credit card debts, where you can carry the balance forward and pay the minimum amount only. With a personal loan, you have to pay a fixed monthly payment.
Risks and Returns:
Investing in stock markets is very volatile. The stock market’s future is inherently unpredictable, so there is no certainty about the return that can be generated. For instance, the NIFTY 50, over the last 20 years, has generated a return as high as 71.90% (in 2003) and a return as low as -51.79% (in 2008).
Personal loans have a short tenure, typically between one to five years. If you aim to generate returns over a long period of time, over 5 years, then investing through a personal loan is not a viable choice.
Additionally, there is the risk of the interest rate rising. If your profit margin is too narrow, which is calculated by subtracting the interest rate from the total returns generated. An increase in interest rates by 3-4 percent may eat into your profit margin, rendering you incapable to cover the additional expenses.
While easy to attain, personal loans generally should not be used for investing in stock markets. There is the likelihood that your investment may not yield the same return you anticipated. If misfortunate, there is the danger of you losing all your capital amount.
You should only take out a personal loan to invest in stock markets only after consulting with an investment professional. If the professional believes that borrowing to invest is the right choice for you. You should weigh the various lenders’ different interest rates offered and select the one that best fits your plan.
You should only invest in stock markets using personal loans if you can afford the risk and are confident that the return will exceed the cost. It is crucial to weigh the potential rewards against the associated risks and decide accordingly.