Wall Street Journal: Downturn Drives Up Wealthy Investors' Borrowing
Borrowing against assets isn’t new for Tyler Vernon’s wealthy clients. How much they need the cash is.
Plummeting values for property and other assets, along with a weak economy and still-tight credit markets, have put even the very wealthy in a pinch. Mr. Vernon, who founded Biltmore Capital Advisors in Princeton, N.J., sees providing them ready access to cash at low lending rates as a key service these days.
“Whether it’s been used to refinance a home-equity loan or for making investments,” he said, the service has been an enormous help at “bringing on new clients this year.”
Before the credit crisis, Mr. Vernon negotiated a deal with a large national bank that enables clients to borrow at below-market rates against the investments he manages for them. Clients with at least $1.8 million can borrow at a variable rate that is linked to the 90-day London interbank offered rate, or Libor, plus 0.6 percentage point, which amounts now to about 0.9% at an annual rate, and those with at least $1 million can borrow at 90-day Libor plus 0.9 percentage point, which is about 1.50%.
That is significantly lower than the more common 2% to 4% rates offered to wealthy investors borrowing from other banks against their assets, according to advisers. They said clients often like to use the loans as “alternative forms of working capital” or to buy real estate.
Mr. Vernon’s investors can typically borrow up to about 60% to 70% of the value of the assets, but he said he usually recommends borrowing no more than 40%. His firm serves wealthy families and foundations and the typical client has $3 million to $7 million in investable assets, although some have much more.
Mr. Vernon said he first became familiar with securities-based lending while working more than a decade ago with employees of United Parcel Service Inc., when he was a financial adviser for Merrill Lynch. Many of those workers borrowed to buy extra UPS stock when the company was still private, and became millionaires when the company went public in late 1999.
There is a misconception that the wealthy don’t need to borrow. Just the opposite: Mr. Vernon’s clients are used to borrowing to invest, buy homes, launch businesses and pay other expenses.
These days, Mr. Vernon said he sometimes is helping clients use the money to straighten out their other debts. For instance, he encourages some clients to use the cash to pay off enough of their jumbo mortgages to become eligible for a conforming loan, which has a lower interest rate.
Clients use the loans rather than sell currently undervalued assets to invest, and they can turn that into more new cash. For example, one individual recently borrowed to buy some commercial real estate. The $1 million project generates about $60,000 in rental income, and the client owes only $10,000 a year in interest but is plowing the extra earnings back into the loans.
Helping clients to borrow helps with retention. “I think the more ways you can help people, the more apt they’ll stay with you,” he said.
Another big plus: Reducing clients’ borrowing costs means they have more to invest. “If we can save on liabilities, that’s a lot less clients need to generate for retirement,” he said.