Investing With Student Loan Money

Something that gets brought up on occasion by more money-savvy students is the idea of getting a student loan and using the money to invest. While this certainly looks good on paper--get money for free and invest your way to riches--I think it's often driven by stories of a few students who get these loans, invest the money in very risky investments, make a lot of money on those investments thanks to a healthy dose of luck, and then brag about their success to their friends. I also suspect most of these investing savants have reasonably wealthy parents who will bail them out if need be.

You should always skeptical of these outrageous success stories. Most successful traders who actually know what they're doing tend to be very humble about their success. If a trader understands risk, they know that massive returns can be followed with equally large drawdowns. Doing this all with borrowed money is dangerous. When a boastful trader gets wiped out by taking on too much risk, you can bet they'll either lie about their success to continue enjoying the attention it brings, or they'll suddenly get very, very quiet about their investments.

It's also interesting how the story of the guy who made tens of thousands or more in investing profits with their student loan money tends to proliferate around bubbles. Right now its the whole crypto thing, pot stocks, and micro-cap lithium miners. When I was in university it was small-cap energy stocks and the BRICs. The collapses that followed prove once again that seemingly easy money is never truly free. Investing is a great humbler.

All this said, lets take a look at how student loans work and why they might actually be a great way to get some arbitrage advantage and make relatively easy money with minimal risk.

Student Loan Structure

Student loans from government sources are a subsidized loan based on the need of the student. "Need" tends to be a bit of a grey word in this world. In your application, you are required to declare many types of government income assistance (except the Child Benefit), funding from parents (including RESP money), and income from investments you hold. Other forms of income and assets sometimes don't need to be included in your application, but that might vary depending on your province.

Government student loans are typically the loans you want to invest with. They normally do not accrue interest while you are enrolled in full-time studies so its essentially free money during this time. Between federal and provincial loans, you can get a substantial amount of money adding up to thousands dollars per semester in a Bachelor's program. You can get even more for professional programs such as medicine or law.

There's also a large category of private sector student lines of credit from the banks. These loans accrue interest right away and often you must pay the interest costs while you are still in school. This often means borrowing more money to pay interest costs. You want compound interest working for you, not against you, so these loans should be avoided. The interest rates on these loans are also quite high making them much more profitable for the banks than for you.

A very important thing to remember with student loans is that you cannot declare bankruptcy to escape the burden of repaying your loans. While loan forgiveness exists, it is only be applied in very particular circumstances and it depends on who provided the loan (federal sources, provincial sources, or private banks).

Governments and the big banks have a lot of power and they can make your life pretty miserable when it comes to getting their money back. For these reasons, student loans are no joke. Graduating with big student loans you can't immediately pay back and going into a mediocre job with all that debt can really damage your financial opportunities for a long time.

Using Student Loans to Invest

To invest your student loan money, you clearly need to have income or money sitting somewhere else to actually pay for your education. This gets tricky because you are required to declare a lot of your income, including help from parents. However, you are often not required to disclose your personal savings or certain forms of income such as tips. I suspect a lot of people getting student loans for investing purposes are not being truthful on their applications; lying is never a healthy path to take in life.

However, lets assume you can legally obtain student loan money and you don't need it to pay for living expenses or education costs. What should you do to maximize your opportunities and how should you invest?

Tax Issues

When you are a student, your income is probably low enough that you won't pay any income tax. That said, the best place to put the money you want to invest is still in a TFSA account. You can open a self-directed, online TFSA account in about 20 minutes with Questrade--an easy brokerage to learn investing. You are able to open and fund a TFSA when you turn 18. The current contribution limit is $5,500 per year, but that amount is cumulative. Always check your TFSA contribution limit using CRA's My Account before funding your TFSA account to avoid over-contribution penalties.

TFSAs are great because the money you make within the account is completely tax-free. You can also withdraw the money very easily when you graduate to pay back your loan. You don't need to report the withdrawals as income on your tax return and any gains you made are reflected in your future contribution limits.

For people who begin to work a reasonably well-paid job after graduation, you might not want to pay off your student loan by withdrawing money from your TFSA. Student loan interest on government loans is tax-deductible from your income so it can be a form of "good debt" when used properly. From a tax efficiency perspective, you would be better off to keep those investments in your TFSA account growing while slowly paying the minimum required on your student loans from your working income. If your TFSA is worth $30,000 when you graduate at age 23 and you continue to invest $5,500 per year earning 6% returns for the next 35 years, your TFSA will grow to nearly $900,000 by the time you are in your late fifties.

Invest Cautiously

Although you might not want to quickly pay off your student loans when your graduate, you still want to have that option if need be. Not everyone gets a job right away after graduation and most recent graduates don't immediately obtain high-paying jobs.

When you invest with borrowed money--regardless of the source--you should invest very carefully. Capital preservation is of ultimate importance! Your ability to make up losses is probably quite limited, so you do not want to lose a lot of money with this approach.

The goal should be to make a bit of money while ensuring you can pay back your loan immediately when you graduate without any problems. This means your investment timeline is actually quite short, maybe somewhere between four and seven years depending on your program. Your investing strategy should be designed with small potential drawdowns which are recoverable in a short time. This is very different from investing for retirement with a 40-year time frame.

You should also remember that your goal is not to take a big swing and try hit the ball out of the park. Singles and doubles will do. Your hurdle rate is extremely low (0% interest while in school), so invest with that in mind. Every dollar you make with another person's money is a dollar you wouldn't otherwise have! If you can make a 4-5% return on free borrowed money with very little stress and work involved, you are doing very well.

Viable Investment Strategies to Consider

As I stated, you should not swing for the fences when investing your student loan money. This is not money for Bitcoin investing, pot stocks, or micro-cap mining stocks. I would strongly suggest you stay away from any shady investment forums or newsletters. For every loud winner in that world, there are 100 silent losers.

Let's take a look at some reasonable example strategies, including an estimated account value if you invest $5,500 at the start and contribute another $5,500 per year for four years using average returns for each strategy. Remember, all investing means taking on risk so don't start if you can't afford to lose money.

1. An easy option would be investing in a single ETF that has plenty of downside protection. Right now, the Vanguard Conservative ETF portfolio (trades as VCNS.TO) is a pretty good option. It has 60% bonds and 40% stocks, all diversified globally, within that one ETF. The fees are low and the underlying strategy is simple. It would have made annual returns of nearly 6% over the past 20 years with a maximum 12-month drawdown of less than 12.5%.
Estimated TFSA ending value of $30,940.

2. You could also invest in a simple, diversified bond ETF such as XBB.TO. Annual returns since 2001 would have been approximately 4.75% with a maximum drawdown of just 4.2%. Bonds tend to be very stable, so this is a great way to get a reasonable return while taking great caution to limit your downside.
Estimated TFSA ending value of $30,240.

3. You could also invest in a barbell-type strategy with two ETFs. Again, downside protection is very important so don't get too aggressive. If you want to keep things simple and limit yourself to Canadian-listed ETFs, you could invest 75% of the portfolio in short-term bonds such as XSB.TO. The remaining 25% of your portfolio can be invested in a leveraged ETF such as HQU.TO. You should re-balance this portfolio once per year to keep the risk down. In the past 20 years, your returns would have been around 10% annually with a maximum 12-month drawdown over 15%.
Estimated TFSA ending value of $33,575.


Using student loan money for investing is not as straightforward and easy as many promote it to be. You should never lie to get money, especially when it comes from the government or the big banks. Fraudulent loan applications are criminal offences and you can pay with your freedom for that. Nevermind trying to get a good job, or credit, with a fraud conviction on your record.

Student loans are stuck with you for life until you pay them off. You can't declare bankruptcy or default on the loans. Whenever you invest using borrowed money, you should be very cautious. You want to have the ability to pay the loan back when needed without any issues.

The best place to invest your student loan money is inside a self-directed TFSA account. Most people would be best off purchasing ETFs and investing very conservatively. This includes investing in diversified bonds, a conservative portfolio ETF, or a conservative barbell strategy with a large portion of short-term bonds. These are just a few simple examples of how to invest with caution in mind. There is always an element of risk when it comes to investing. If you are not able to stomach that risk, or if being unable to pay off your student loan would cause you serious harm once you are graduated, you should not be investing that money. Period.

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When Dividend Investing Fails

A few weeks ago I was busy re-formatting the blog and going back through my old blog posts. It's always fun to take a peek back in time and see what I discussed. One post that caught my eye was my Dividend Investing post back in May 2017. It interested me because I'm not a big fan of dividend investing and the results were quite revealing: don't focus on dividends, especially when they no longer offer a value proposition.

Dividend investing is huge in Canada! Just about every bigger financial blog written by Canadians for Canadians has a overwhelming positive view on dividend-focused investment strategies. Fortunately some are slowly turning towards index investing and other strategies, but that allure of cash payments dropping into your account on a monthly or quarterly basis is just too much for many to resist.

Maybe dividend investing made a lot of sense at one point in time. Mutual funds in Canada used to the chief comparison for the dividend crowd and we know Canadian mutual funds are generally a rip-off. Then there's the whole value argument that once was linked to dividend investing.

Further, dividends get very nice tax treatment, especially for lower-income Canadians such as retirees. Back when the capital gains inclusion rate was higher than it currently is, dividends were a clear winner in non-registered accounts. In RRSP accounts there are some tax advantages for investing in U.S. dividend stocks.

Dividend Investing Isn't What It Seems

The strategy behind dividend investing (when done correctly, of course) was actually not a terrible one at first glance. However, contrary to what you might have been led to believe by the dividend crowd, it was not good because of the dividend income stream.

Dividend investing was actually a pseudo-value strategy with a buy-and-hold tendency because of the focus on income rather than investment price. Companies that paid investors a healthy portion of their profits and increased their dividends over time were historically cheaper than the broad market. It's never a bad strategy to invest in a basket of companies that are cheaper than the overall market, be that on a price-to-book, price-to-earnings, or price-to-sales basis.

Meb Faber recently completed a white paper that further demonstrates what I am talking about. He also shows investors are better off using proper value metrics and staying away from attraction to those dividends.

It's important to always understand what you are really investing in and why your strategy gives you an edge in the markets. If you were investing in a strategy that turns out to actually be a value-driven strategy, it no longer makes sense to invest in that strategy if the valuations of those companies have gone totally crazy while the growth prospects remain muted.

There are so many viable investment strategies out there, it hardly makes sense to chase any one strategy with blinders on. Dividend investing, like any active individual stock strategy, takes a fair amount of work. When the prospect of outsized returns has disappeared--even if it's just temporary--why not focus your investing on indexing instead and save yourself the time and trouble of analyzing individual stocks. If you still want to put in the work, then invest in something more sound on a risk-reward basis like trend following.

Dividend Investing vs. Trend Following

The biggest problem with Canadian-listed dividend companies in general is that they got ridiculously expensive. I would say the blame for this lies squarely on massive government intervention in the financial markets, particularly since 2009. People used to be able to dump a big chunk of their portfolio in government bonds and earn 5% interest income; those days seem to be gone for now.

The only place left where you can get decent income is dividend stocks and REITs. Since 2009, the rush into these categories has been phenomenal. This wave of money made prices ridiculously high given the real growth prospects of these old-guard industries. That underlying value premium which historically benefited investing in dividend stocks is gone.

In my May post, I talked about the insane valuations of some of these Canadian dividend favourites. I specifically mentioned Loblaws (L.TO), Emera (EMA.TO), and Enbridge (ENB.TO) as being very expensive. Turns out I wasn't wrong in my belief that these companies had poor prospects going forward. If you had invested in these companies, you would be down around 15% since last May.

I am not a predictor and I had no clue that the prices of these stocks would begin to collapse, but at the appropriate time the trend lines would have quickly told you something wasn't right and that it was time to get out.

Let's have a look at their 1 year charts:

Source: Yahoo Finance

Source: Yahoo Finance

Source: Yahoo Finance

May 2017 was the clear peak price for both Enbridge and Loblaws. Emera ran up a bit more until December before turning negative. If you follow the long moving average line (purple one), you can see the price trends clearly flattening out and turning down. Selling when the price moved below the moving average would have significantly reduced your losses.

These are some great examples of why trend following works and why I prefer it to dividend investing. The system makes sense and doesn't depend on any fundamental evaluation or crowd promotion. Everything is baked into that price and I'll stay in the trend until it bends.

Comments & Questions

All comments are moderated before being posted for public viewing. Please don't send in multiple comments if yours doesn't appear right away. It can take up to 24 hours before comments are posted.

Comments containing links or "trolling" will not be posted. Comments with profane language or those which reveal personal information will be edited by moderator.