Lombard loans – an integral wealth management instrument
A Lombard loan can offer you leverage on certain financial transactions, cover short-term liquidity needs, or even help with tax issues, making it an integral wealth management instrument. Read on to find out more about how they work.
What is a Lombard loan?
The term “Lombard loan” comes from the collateral loans granted by Lombardy banks in the Middle Ages. Aimed at wealthy or even very wealthy clients, Lombard loans provide a credit line to help you meet short-term liquidity needs without being forced to touch your assets. The loans are easy to arrange and can be tailored to your needs in terms of currency, amount, duration, etc.
A key feature of a Lombard loan is that it is granted in return for pledging assets held in a securities portfolio at the lending bank. But don’t worry – as intimidating as this might sound, all it means is that in exchange for the loan from your bank, you pledge some of your movable assets (cash deposits, stocks, bonds, etc.) as collateral to be held at the bank. The real loan amount granted equates to a fraction of the value of these pledged assets. The amount depends on various factors such as the value, type, liquidity and volatility of the pledged assets. Analysing these parameters allows us to calculate the loan-to-value ratio, i.e. the collateral value on which the credit line granted by the bank is based. With the constant fluctuation of the markets, this ratio is regularly revised based on how these parameters change.
Depending on the loan plan you choose, you can repay the capital either at a pre-determined maturity date (between one and four years, on average), or at another date of your choosing without any penalty. Why is it so flexible? Simple! As your pledged assets are worth more than the liquidity lent – and on which you pay interest – your bank won’t be in a hurry for you to repay the loan. Generally, and for this reason in particular, even if the loans have a maturity date, they can be repaid and reused throughout the term of the loan.
Lombard loans are aimed exclusively at informed clients seeking leverage on certain investments without needing to sell other assets.
Why take out a Lombard loan?
Lombard loans are exclusively aimed at informed clients who are aware of the associated market risks and are seeking leverage on their investments without needing to sell other assets such as equities or bonds, in order to get the liquidity they need. In practical terms, this means you can finance the purchase of new financial products using a bank loan. Naturally, your aim as a borrower is that the return on the investment that you have been able to finance with the credit line is higher than the lending rate.
But that’s not the only benefit of this type of loan! Lombard loans can give you extra liquidity in several different situations without requiring you to adapt your wealth strategy. They allow you to:
- gain leverage, as mentioned above;
- infuse your securities portfolio with the extra cash needed to diversify;
- gain access to substantial liquidity in different currencies if you see an attractive investment coming up;
As well as being flexible in terms of duration, amount or currency, one of the other major advantages of a Lombard loan is the option to change the loan limit at any time by modifying the assets you pledge. The limit goes up or down depending on the collateral value, i.e. the type and quantity of the assets you agree to pledge to the lending bank.
Last but not least, it’s important to mention that investments financed with a Lombard loan can offer tax benefits. In this case, it’s best to consult an expert to find out how this will affect you depending on your tax residence and tax regime.
The main risk is the risk of capital loss if markets fall. Lombard loans are also subject to exchange risk.
What are the risks?
Lombard loans are closely tied to the financial markets and their inherent risks. They are speculative by nature because of the leverage they offer. This means that the main risk is the risk of capital loss if markets fall. Depending on the currency, Lombard loans are also subject to exchange risk.
Furthermore, as the loan rate changes over time and depending on fluctuations in the value of the securities in your portfolio, you may need to increase the value of the assets pledged as collateral or accept a loan reduction. And of course, if you are not in a position to meet these requirements, your bank may liquidate, i.e. sell, the pledged assets to recuperate the capital lent.
Is a Lombard loan right for you?
That depends on your precise situation, so there is only one real answer we can give you: discuss it in detail with your banker. We would like to remind you once again that Lombard loans are only available to informed investors, and are granted based on your investor profile. Find out if you are eligible!