Most people are left aghast the high rates of interest charged by credit card companies and millions of people have driven themselves into debt traps simply because they have been unable to control their credit card spends.
However, there is a different breed of investors who firmly believe that despite the usurious interest rates charged by credit card issuers, it is still possible to use them to make investments for profit. An analysis of the risks involved in credit card arbitrage:
Credit Card Arbitrage Explained
Arbitrage is essentially a process of buying something at a lower price and selling it simultaneously for a higher price so as to make a profit from the difference.
Credit card arbitrage is an extension of the same concept wherein you borrow money from the credit card issuers and invest it in opportunities that give you a return that is more than the interest you have to shell out. A typical example of credit card arbitrage is using the money from a zero percent offer card to deploy in an investment that gives you high-yields.
The process is very simple; you just need to complete the paperwork and use one of the pre-printed checks that card issuer sent along with the offer or make the request online and receive the funds in your bank account. You invest the money in any financial instrument that offers a high yield.
Continue to make the minimum monthly due payments to the card issuer every month till the expiry of the introductory offer period and settle your dues in full by liquidating your investment. The difference in what you have earned and your payout to the card company is your profit.
Typical Risks Associated with Credit Card Arbitrage
It may seem very simple to spin profits out of thin air using credit card money and indeed there are many proponents of the system who say that it is possible not only to make substantial profits but also improve your credit history and score by making the card repayments on time.
However, for the inexperienced, credit card arbitrage can be an extremely dangerous gamble and land them in a debt trap. Some of the typical risks examined:
1. Difficult to find profitable investment opportunities for the layman:
A normal person will not know how to identify investments that can fetch a high rate of return that can offset the cost of the borrowing.
It is also difficult to find investments that are totally safe, easy to liquidate, yet profitable. Unless you are an investment professional, you are unlikely to have enough knowledge of the investment markets to be able to time the credit card offer with a lucrative investment opportunity, and unless the amount invested is really substantial, it is not worth the effort.
It is also not possible to make profits from a typical bank loan and you have got to be aware of any penalty that may be applicable on selling the investment that may subtract significantly from your profit.
2. Create a habit of perpetual debt:
if you have been successful in credit card arbitrage even to a modest degree, it can be a very powerful attraction to keep taking on debt for investment.
Continually seeing very large numbers on credit card statements can make you financially irresponsible and undisciplined and that can lead to a lot of problems in the future. For help in managing credit card debt explore nationaldebtreliefprograms.com.
3. Risk of loan default:
It needs to always be kept in mind that the money taken from the credit card is in the nature of a loan that is subject to various terms and conditions that include repayment according to a particular schedule.
If your investment turns out to be a dud, you could end up not making the monthly payments on time and will be classified as a defaulter by the card company. This entitles them to not only charge you steep late payment fees but also change the rate of interest applicable on your loan.
If that happens, it can throw all your investment calculations out of gear and not only result in losses but also snare you in a debt trap that you will find difficult to get out of quickly.
Credit card arbitrage works if everything works out as per plan but in case you have an unexpected emergency like losing a job or a medical emergency that forces you to liquidate your investment or take on an additional debt, it can affect your ability to pay off your credit card debt as planned.
4. Negative impact on your credit score:
Even though most people do not recognize it, credit card arbitrage can affect your credit score negatively in a number of ways. Firstly, whenever you open a new line of credit, your score takes a hit and then when you borrow money on your new card, it increases your credit utilization ratio that also affects your credit score.
By taking on more debt, you also increase your debt to income ratio that dampens your credit score. Also, missing even one late payment can really hurt your credit score seriously as it has a weight of 30%.
5. A sudden change in the card issuer terms and conditions:
Engaging in credit card arbitrage is definitely not for the faint-hearted. Even as the investment climate is subject to constant change, the card issuer may also arbitrarily and without any prior notice change its terms and conditions of the money you have borrowed.
These changes often escape notice because they might be contained in the fine print of the monthly card statement or in any mail that you had discarded thinking it to be junk. Changes in the due date, interest rates, fees, and penalties can easily wipe out anticipated profits.
There is no denying the fact that credit card arbitrage is possible. However, it is a strategy that is best left to people with experience and a proper understanding of the downsides associated with it. The difference in margins and the sums involved, need to be fairly substantial to make it worth the while for investors.