Don't bet the ranch on securities
By Mary L. Schapiro, Vice Chairman, NASD

Mary L. Schapiro, vice chairman of NASD and a former SEC commissioner, wrote this commentary for Bankrate.com.

NASD has been very concerned about an extremely risky strategy some investors are using in an attempt to take advantage of a rising stock market, low interest rates and skyrocketing gains in the value of their homes.

Investors are taking out new mortgages, refinancing or obtaining a line-of-credit secured by their homes, and using the money to invest in the stock market. Let me be blunt: 99 percent of the time it is too risky for an investor to mortgage his or her home in order to speculate in the securities market.

Investors who must rely on investment returns to make their mortgage payments could end up defaulting on their home loans if their investments decline and they are unable to meet their monthly mortgage payments.

Investors who bet the ranch could very well lose it.

To demonstrate how concerned NASD, the world's largest private sector securities regulator, is about this investment strategy, we have taken -- and will continue to take -- enforcement actions against brokerage firms that recommend to investors that they risk their homes in this way to invest in the stock market.

Compounded risk
When you invest in virtually any security, you risk losing all or part of your initial investment. But, taking money out of your house to buy securities compounds your risk for the following reasons:

• When you buy securities with mortgage money, you are investing with borrowed funds. While this increases your buying power, it also increases your exposure to market risk, similar to buying securities on margin. The difference is that your mortgage loan is likely to be greater than any amount a securities firm would lend you on margin. Investing borrowed mortgage money amounts to a huge bet that the investment will increase in value.
  
  
• Unlike investing with savings, when you invest with mortgage money, you stand to lose more than your principal if the investment goes sour. You can lose the collateral supporting the loan -- namely your house. Even if you don't lose your house, you could lose the equity in your home that may have built up over a considerable period of time.
  
  
• You may put your money in higher-risk investments than you might normally select, in an effort not only to match the rate of your home loan but in the hope of surpassing it. And, with so much at stake, if your investment does poorly, you may feel compelled to move your money into even riskier investments to make up the difference, further jeopardizing your home, credit standing and overall financial health.

Worst-case scenarios can happen
NASD is aware of instances in which investors have had difficulties paying their mortgages as a result of declines in their mortgage-financed investments. Here's how this can happen:

A retired couple's house is paid off, but they have very little extra money to meet their everyday living expenses. They decide to take out a new mortgage of $250,000 at 6 percent, planning to invest this mortgage money in the hope of making more than 6 percent. They lock into a mortgage requiring monthly payments of $1,663.00. On the advice of their broker, they invest their mortgage money in a mutual fund that has earned an average of 12 percent over the past five years. But instead of gaining value, the couple's investment loses money from the start and continues to decline.

After one year, their investment is worth $200,000. Since they were depending on this investment to generate $1,663 a month to pay their mortgage and they have no other assets to liquidate to make up the difference, they are faced with a tough choice: Sell off part of their now-depleted original investment to make the mortgage payments and hope that the investment turns around, or sell their house and hope that the selling price is enough to pay off the loan and pay for real estate commissions. Either way, they run the risk of losing money -- and their home.

If your broker recommends this strategy, it comes down to one very simple question. Before taking out a mortgage or refinancing to invest in securities, ask yourself: How will I pay for my mortgage or loan if my investments decline? Do I have a secure salary or reserve funds to make mortgage payments if my investments lose value?

If the answer is no, and 99 percent of the time it is, just say no to betting the ranch to invest in securities.

Mary L. Schapiro is vice chairman of NASD, the world's largest private sector securities regulator, and president of the Regulatory Policy and Oversight Division.

Prior to assuming the chairmanship, Ms. Schapiro served for six years as a commissioner of the Securities and Exchange Commission.