Eliminating the impossible leaves only the truth. Financial institutions and securities firms lend money because the interest they receive from lending is higher than the returns they could earn by investing the funds themselves. If this weren't the case, they wouldn't take the risk of not getting their money back.
The Truth About Margin Loans
Why Margin Loans?
A margin loan involves borrowing money using stocks as collateral. People who take out these loans do so because they believe they can earn more than the interest they have to pay. Conversely, lending institutions and securities firms provide these loans because they don't believe they can earn more by investing the funds themselves. Which side is more prudent? One advertisement for a margin loan company reads, "Are you just watching rising stocks?" Why do they lend out all their money and only watch the rising stocks?
Capital Utilization of Margin Loan Companies
Running a margin loan company requires substantial capital. Why don't they invest this money in stocks themselves? Many believe that with large sums, it's easier to make money in the stock market. However, these companies advertise low-interest rates and lend money to individuals. Why is that?
Lessons from the History of Margin Loans
The 19th Century American Margin Loan
In the mid-19th century, margin loans became popular in the U.S. They allowed borrowing up to 80-90% of the stock's value but required repayment within 24 hours if a margin call was made. Investors who borrowed through margin loans could lose everything with just a 10% drop in stock value.
Modern Margin Trading
Today's margin trading services offered by securities firms allow borrowing up to 2.5 times the cash on hand, and stocks can be used as collateral at 70-80% of their value. If the loan isn't repaid within two days, an automatic forced sale occurs, meaning the securities firm sells the stocks at the lower limit to recover the funds.
Why Do Lenders Take Risks?
Lenders' Anxiety and Safety Measures
Then and now, lenders who provide stock investment funds worry about getting their money back. They measure risks and set up multiple safety measures. So why do they take on such risks instead of investing the funds themselves?
Stable Interest Income vs. Direct Investment
The reason is that lending money and earning interest is more stable and secure than direct asset management. They may not be confident in making profits through stock investments but can convince you that you can make profits, which is more of a marketing strategy than reality.
Conclusion
Stock investments can yield high returns but come with significant risks. The reason financial institutions prefer lending over investing directly in stocks is the uncertainty involved. They focus on their core business to ensure stable returns.
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