In an Investor Alert, the Financial Industry Regulatory Authority and the US Securities and Exchange Commission’s Office of Investor Education and Advocacy (OIEA) sought to inform investors about the risks involved in securities-backed lines of credit (SBLOCs). These loans are usually touted as a hassle-free, low-cost way for investors to gain access to money by borrowing against their investment portfolio’s assets without needing to liquidate the investments. Popular among a growing number of securities firms, SBLOCs, however, are not a good match for every investor.
Securities-Backed Lines of Credit – SBLOCs
Typically, to qualify for an SBLOC, an investor must have assets with a “market value of at least $100K.” He or she can then usually borrow anywhere from 50-95% of the value of assets in the portfolio.
SBLOCs let investors borrow funds while their investments serve as collateral, even as these assets continue to trade in their accounts. Flexible spending with SBLOCs allows an investor to use the money from this type of loan however they would like, except for to buy and trade securities.
However, investors with SBLOCs have to make interest payments monthly and the loan is outstanding until it is paid back in full. Also, should the value of an investor’s securities go down so that they can no longer back the credit line, the investor may be asked to pay back the loan within a certain time period, usually two to three days, or to add more collateral.
Failure to pay back the loan or increase collateral could lead to the brokerage firm liquidating an investor’s securities and keeping the funds to make up for that shortfall. This could result in the investor then having to pay taxes.
In their alert, FINRA and the SEC’s OIEA cautioned investors to make sure they understand the following when opting for an SBLOC:
- The terms of their agreement, including whether monthly interest fees may fluctuate
- How their holdings may be impacted
- The risks involved
- Any possible, related costs
The regulators are also advising investors to understand who the lender of the SBLOC actually is–it may be a third party and not your brokerage firm– and whether it makes sense to use their investment portfolio for loan collateral. For example, because the value of securities do change, the collateral backing the credit line could prove “volatile.” Should the value of the portfolio decrease to the point that liquidation of securities would have to occur, this could impact an investor’s credit limit.
Investors should also know that brokers are typically paid additional compensation or part of the fees resulting from SBLOCs they’ve sold to clients. The fees they stand to make from a customer’s portfolio also typically don’t change even with an SBLOC because the assets in the portfolio can still be traded. This is why it is important that a broker recommends an SBLOC to an investor only because it is in the latter’s best interests and not merely for the financial representative and firm to earn additional profits.
Investor Claims
Unfortunately, investors are not always apprised of the risks involved with SBLOCs and unexpected losses can lead to serious financial woes. At Shepherd Smith Edwards and Kantas, LLP (SSEK Law Firm), our investor fraud lawyers would like to offer you a free case consultation so that we can help you determine whether you have grounds for an SBLOC claim against your broker or broker-dealer.