Huge swings in financial markets feel like they’re becoming increasingly common.
Russia’s invasion of Ukraine sparked huge drops in western equity markets before recoveries took hold. The FTSE 100 had recovered its losses by the end of March, yet various sceptres hang over markets, whether it’s more lockdowns in China, the soaring costs of energy and food, or the uncertain path of interest rates, says Alex Ogario, Head of Private Office at Knight Frank Finance.
We often advise clients who have significant wealth tied up in equity markets. Just last month, I worked with a client who had sold their business several years ago to a listed business in an all-shares deal.
For these clients, utilising low interest rates to allocate capital to large purchases or diversify their portfolios can be tricky. Nobody wants to sell at a loss or a perceived weak point in the market, and even if your holdings are in the green, selling crystallises your gains, potentially leaving you liable to capital gains tax.
Lombard lending is a relatively niche area in finance, but is popular among our high-net-worth clients. The loans take their name from the Lombardy region in southern Italy, known from the 6th century onwards as a hub of financial innovation.
The products, also known as margin loans, enable borrowers to access funding secured against holdings of single securities or diversified portfolios. In most cases, a private bank will take custody of the position being offered up as collateral, before a loan can be drawn.
There are important points that are worth weighing up.
Firstly, the margin. A bank’s return over the cost of funds will have a large bearing on the cost of debt. We work with many lenders offering margins below 1% at present, so there are opportunities to secure very cheap debt.
Secondly, the loan-to-value (LTV) ratio will depend on the position in question. My client, for example, had a large holding in a single security which constrained what was possible from an LTV perspective due to the potential for volatility. In this particular case we achieved 65%.
A more diversified portfolio, particularly if it’s held in funds managed by the private bank offering the loan, could command LTVs of 80% or more. Even higher LTVs may be possible where a portfolio contains certain government bonds, structured products or cash.
The lender will also seek to agree a level for a margin call should the value of the collateral fall. In our example at 65% LTV, that would occur if the value of the holdings drops to a point that brings the LTV to around 70%, at which point the borrower will need to post extra capital to bring the LTV back down.
Finally, we recommend clients seek out professional tax advice, as there are a number of potential tax considerations worth assessing and seeking counsel on.
With all that considered, Lombard lending can be an agile method of accessing cheap debt, particularly with margins below 1%. The products allow individuals to diversify their investments without needing to sell stock, and the loans are easy to draw down in all major currencies.
More volatility in equity markets lies ahead according to analysts at large institutions including Allianz, so it pays to be prepared. If you would like to discuss your options, get in touch with Alex.