How can you keep trading when your money is tied up in open investment positions? If you make a lot of trades every day, your brokerage account's cash balance can easily run out long before your positions turn a capital gain. You then have to either transfer more money to your brokerage account to replenish your cash balance or wait until you close your positions before you can keep trading.
Unless you can afford to maintain high cash balances, this situation can throw a sizeable monkey wrench into your trading ambitions. This is especially true if you are a day trader and profit of multiple small capital gains on frequent stock trades.
What is a Lombard loan?
A Lombard loan is a line of credit secured by collateral. They can be secured by stocks, bonds, precious metals and other highly liquid assets. They can also be secured by the cash value of permanent life insurance policies (see also: life insurance policy loans).
Lombard loans are useful for traders because they can be secured by the securities in your portfolio. Most Swiss brokers only accept shares held in their own custody accounts as collateral. Some offer Lombard loans in USD and/or EUR in addition to CHF.
Example: You own 50,000 Swiss francs worth of shares. You want to open up additional investment positions. However, you do not want to close your current positions because they are performing well (or because you do not want to sell at a loss).
Instead, you get a Lombard loan with a line of credit equal to 80% of the value of your shares. At the current value of your existing shares, you can buy up to 40,000 francs worth of additional shares using the Lombard loan.
You can continually borrow against that line of credit as necessary. If the value of the securities which collateralize the loan goes up, so will your line of credit. If it goes down, your line of credit will go down too.
While fixed-rate Lombard loans are offered by some banks, many brokers only provide variable-rate Lombard loans with interest rates that can be changed at the lender's discretion. In Switzerland, interest rates generally follow market conditions. In the current low-interest environment, most brokers are offering very favorable rates. If overall interest rates sink further, your interest rate may go down, and if overall rates go up, the interest rate on your Lombard loan may go up as well.
Before you use Lombard loans, take time to calculate how interest rates will affect your overall trading costs. Most brokers only charge you interest on the portion of your line of credit which you actually use. You also only pay interest for the effective term over which you use credit.
So the amount of interest you pay will depend on: how frequently you trade; how often you actually use the Lombard loan; how much money you borrow; how long you carry balances for. If you borrow the full amount available on a near-permanent basis, the annual interest charges can add up to a significant extra cost.
The risks of Lombard loans
Lombard loans aren’t all peaches and cream. Like all loans, Lombard loans come with interest, fees and charges. Another hazard of securities-backed Lombard loans is that if your securities lose in monetary value, your collateral will shrink and your broker will adjust your line of credit to match. If your balance is higher than the new, lower line of credit, you will have to make up the difference out of your own pocket.
If the value of the securities free-falls, you could end up owing the broker a lot of money above what they can glean off your portfolio.
Example: You own 50,000 francs worth of Apple shares. You pledge them as collateral for a Lombard loan equal to 80% of their value, or 40,000 francs. Because you believe that Apple stock will keep going up, you use the full 40,000-franc line of credit to buy more Apple shares. Instead, the value of Apple shares temporarily plummets. Your initial shares are suddenly worth just 40,000 francs, and your line of credit shrinks to just 32,000 francs. The value of the shares you bought with the loan declines to 32,000 francs.
You now owe the broker 8000 francs for the part of the loan which is no longer secured. Unless you promptly replenish the 8000-franc deficit, the broker will close the new position at 32,000 francs. They may also sell the shares which act as collateral to recover the 8000 francs you owe. You make an 8000-franc loss plus the interest you pay for the Lombard loan.
In most cases your broker will force you to sell your securities before serious losses are incurred, assuming that securities are liquid enough to sell quickly. For this reason, most brokers accept only highly liquid securities as collateral against a Lombard loan, and generally require that your positions are well diversified. As long as high-liquidity assets are used and you do not use high leverage ratios in trading, potential losses normally will not be devastating.
A more real risk is presented by taxes. Using Lombard loans for trading can make you look like a professional trader to Swiss tax authorities. If you are categorized as a career trader by your local tax office, you will have to pay taxes on capital gains earned on investments, which will take a bite out of yields. However, you can also earn the tax designation of “career trader” by trading on a frequent basis (more than once every 6 months, for example), even if you do not get a Lombard loan.
Lombard loans from Swiss brokers compared
Most Swiss banks which offer brokerage services also provide Lombard loans. However, not all online brokers provide this service and interest rates vary between those that do. Here, we look at the interest rates charged by some of the most affordable brokers in Switzerland.
Swissquote makes Lombard loans available to its customers in CHF, EUR, and USD via a current account. You can use this loan to buy securities via Swissquote, with securities held in your Swissquote custody account providing the collateral. The variable interest rate for a Lombard loan in CHF or EUR is currently 3% per annum and applies to the portion of available credit which you actually use. Loans in U.S. dollars are subject to a 5.40% annual interest rate. In order to qualify for a Swissquote Lombard loan, your portfolio must have at least 3 unrelated securities positions. Swissquote occasionally runs special Lombard loan promotions and these can be very attractive.
Strateo offers CHF Lombard loans at an interest rate of 3% per annum. A 3.5% annual interest rate applies to EUR Lombard loans, and a 2.5% rate applies to USD loans. Interest is charged on a quarterly basis. You only pay interest on the actual amount which you borrow during each quarter and not on the full line of credit. Loan terms are variable, with no fixed maturity date, so you can continue to make use of this line of revolving credit for as long as it makes sense to do so. This Lombard loan could work well for smaller scale traders because loans as low as 10,000 francs are available. However, your loan cannot exceed 50% of the market value of your securities. That is somewhat conservative, but also provides you with a safety net against falling into debt if your securities lose value.
Saxo Bank does not offer clients access to Lombard loans at this time. The bank’s online trading service is currently one of the most affordable in Switzerland, as shown by the moneyland.ch online broker comparison. The PostFinance e-trading service is another popular online broker which does not currently grant Lombard loans.
Cornèr Banca, which provides the Cornèrtrader online trading service, offers Lombard loans via a current account. The line of credit and interest rate you get depend on the amount and type of securities which you provide as collateral. It also offers fixed Lombard loans with terms of 1 to 12 months and fixed interest rates – but the minimum loan size is 250,000 Swiss francs or the equivalent in foreign currency.
Credit Suisse, Julius Bär and many other Swiss banks offer fixed-rate Lombard loans in addition to standard variable-rate Lombard loans. Like Cornèr Banca, they provide Lombard loans via current accounts. Universal banks and private banks typically have higher minimum loan requirements than online brokers. At Credit Suisse, for example, the minimum Lombard loan size is 30,000 francs for variable loans, and 100,000 francs for fixed loans.
Some banks make Lombard loans available but reserve this service for certain types of customers. For example, major Swiss bank UBS primarily provides Lombard loans as part of its wealth management services. These loans are aimed at helping customers to achieve their investment goals or to finance investments, including stock market trades. The cost of Lombard loans from UBS varies, as costs are tailored to fit individual banking relationships. As with most Lombard loans, lines of credit for UBS Lombard loans are based on the amount of securities deposited.
A Lombard loan is a useful (albeit risky) tool for traders looking for greater financial liquidity. If you find that tying-up your capital in investment positions is inhibiting you from taking advantage of profitable trade opportunities, then applying for a Lombard loan could provide a solution.
Because nobody can accurately predict whether the value of stocks and other market-based securities will rise or fall, using securities as collateral against a loan has a very real element of risk.
If you are an experienced trader, you are probably familiar with the risks associated with the stock market. As a new trader, on the other hand, you will want to avoid taking on Lombard loans above what you can easily repay out of your own pocket should your collateral lose value.
Last updated: July 2019.