When collateral for one loan serves as collateral for other loans as well, it is called cross collaterization. The most common example being the case when a person wants to buy a new residential investment property using the family home as the collateral security.
Note:The properties being used as collateral both need to valued by a registered valuer unless the Loan To Value Ratios are so low that an existing rates valuation will suffice.
For most people starting out in the investment world however it is a long wait before they have enough equity in their home so that they can cross collateralise into another property.
So whats the solution?
How can this be useful for buying shares? Borrowing against your home to buy blue chip shares is a great way to unlock some of the equity you have created over the years without having to take out too large a mortgage as you might if you were borrowing to buy another home. It also allows you to invest in income producing assets sooner than you could if you waited until you could afford that next investment property. The reason this is possible is because banks will allow some assets (like property) to be borrowed against, up to a “Loan to Value Ratio,” or LVR of 90%. This is the relative amount of the sum loaned against a property with respect to its value, for example, a house that is valued at 500,000 with 250,000 debt has an LVR of 50%. That is, the owner has borrowed an amount which is 50% of the value of the property. Some or the entire remaining equity can be utilized as collateral for another mortgage. Cross collateralization is usually used to acquire additional property however it is not unusual for more risk adverse investors to also cross collateralize their homes into the share market.
If you are the sort of investor who wants to follow a strategy like this remember that leverage is a double edged sword, the returns are magnified on the way up but they are also magnified on the way down.