Leverage / gearing

Leverage / gearing

In simple terms investing should be a case of putting your own money into an asset in the hope it will grow and pay a return.

But in the convoluted finance world, investing can also involve borrowing a sum of money, known as gearing or leverage, so you can invest more and increase the potential return.

The success of gearing/leverage has been most obvious in the property market.

For example, you buy a house for £100,000 and you borrow £20,000 for the deposit. Your gearing/leverage is £80,000. The house price rises by 50% to £150,000. But your return is not 50%, it's 62.5%. This is because your £80,000 investment has increased by £50,000.

Of course if the market goes the other way, your losses are amplified as much as your gains. (Yes it can happen! Prices fell for two decades in Japan in the Nineties and Noughties).

The wise rule for us mere mortal non-professional investors is don't invest until you have cleared your debts. But there's method in the madness for others.

 
 
Risk

Risk

Annuity

Annuity

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