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How much more does this net a person?
Nalebuff: If you put all of the weight on reducing risk, then it won't improve your return. However, if you want to keep the same risk as you currently have and apply it toward more return, then we find that retirement portfolios end up being about 60% bigger. It's substantial. Of course, that's based on the historical performance of equity markets — but the reduction of risk is not based on that, because whatever the markets do on average, they're going to do with our approach or another.
How do you know how much to lever?
Ayres: That's a good question. If 2-to-1 is great, why not go to 3-to-1 or 4-to-1? The answer is, the cost of levering becomes too expensive. One of the great pieces of news in this book is that it's really cheap to borrow money to take levered positions in stock at a 2-to-1 rate. But if you go beyond 3-to-1, it gets prohibitively expensive to borrow money. The benefits of diversification are lost when the cost of borrowing becomes too great.
How much does it cost?
Ayres: Over the past 138 years, the wholesale lending rate for margin loans was just 0.34 percentage points above the T-bill rate. Don't do it from Vanguard or Fidelity — they don't have competitive margin rates. But if you shop around places like Interactive Brokers, you can basically borrow very close to the T-bill rate, if you stay at a 2-to-1 basis.
Nalebuff: It's also possible to do this via long-term options. Ideally, this idea will catch on and there will be funds that do it for you. Today there are a few, like the Ultra Bull fund from ProFunds.
Who isn't this strategy for?
Nalebuff: If you have any credit-card debt. Stocks don't outperform the interest rate you pay on credit cards.
Ayres: Or if it's likely that your future income will be very correlated with the stock market — maybe you're on commission in the housing industry. That might be something that pushes you away from this being right for you. We have a chapter that lays out six different reasons why this isn't for everyone.
You can't buy on margin in a 401(k). Is it worth giving up the tax shelter and company match to do this in another sort of account?
Nalebuff: Absolutely not. We want to be 2-to-1. If a company match is going to give you the 1 right away, then you get 2-to-1 risk-free. That beats having to borrow for it. Even 50% matching is a better deal.
Is this how you have your money invested?
Ayres: Yes. I just turned 51, so I'm not in the stage of 2-to-1 leverage, but I have a margin position. I'm doing it in a way a 51-year-old should. It's prudent to ramp down your exposure to the stock market over time. I'm not up at 200%. I'm at about 120%.
Do you have your kids' college savings levered at 2-to-1?
Ayres: Part of the disciplined approach is you just do this with retirement savings. You don't do this with money you need to spend before retirement.
You got hate mail when you first floated this idea in an article. What do you think the reaction is going to be now that you've written an entire book?
Nalebuff: I have no doubt that we will be held up as a prime example of what not to do. It's a typical overreaction. A little leverage is a good idea. Too much leverage is bad, but no leverage is also a problem.
Ayres: The antileverage impulse is so strong. I was taught in high school that leverage caused the Great Depression and that only speculators buy stock on margin. We have to overcome this psychology. We don't demonize leveraged purchases of education and leveraged purchases of homes. We're trying to open people's minds to the idea that to buy stock on margin in a disciplined way to reduce and control risk is prudent and the way of the future.