Introduction
When it comes to investing, one of the most important decisions you’ll make is how much leverage to use. Leverage can amplify your gains, but it can also amplify your losses. In this article, we’ll compare low vs high leverage and help you decide which is better for your investments.
What is Leverage?
Leverage is the use of borrowed money to invest. For example, if you have $10,000 and you use it to buy stocks, you’re investing with no leverage. But if you borrow an additional $10,000 and invest $20,000 in stocks, you’re investing with leverage.
Low Leverage
Low leverage means using a small amount of borrowed money to invest. For example, if you have $10,000 and you borrow an additional $2,000 to invest, you’re using low leverage.
High Leverage
High leverage means using a large amount of borrowed money to invest. For example, if you have $10,000 and you borrow an additional $8,000 to invest, you’re using high leverage.
Pros and Cons of Low Leverage
Pros:
- Lower risk of losing money
- Less interest to pay on borrowed money
- Less stress and anxiety
Cons:
- Lower potential returns
- Less room for error
- Less flexibility
Pros and Cons of High Leverage
Pros:
- Potentially higher returns
- More flexibility
- More room for error
Cons:
- Higher risk of losing money
- More interest to pay on borrowed money
- More stress and anxiety
When to Use Low Leverage
Low leverage is best used when you:
- Have a low-risk tolerance
- Are investing for the long-term
- Don’t want to take on too much debt
When to Use High Leverage
High leverage is best used when you:
- Have a high-risk tolerance
- Are investing for the short-term
- Want to maximize your potential returns
Examples of Low vs High Leverage
Let’s say you want to buy a rental property that costs $100,000. Here are two scenarios:
Low Leverage
- You have $50,000 in cash
- You borrow $50,000 at 5% interest
- Your total investment is $100,000
High Leverage
- You have $20,000 in cash
- You borrow $80,000 at 5% interest
- Your total investment is $100,000
Conclusion
Low vs high leverage is an important decision when it comes to investing. Choose low leverage if you have a low-risk tolerance, are investing for the long-term, and don’t want to take on too much debt. Choose high leverage if you have a high-risk tolerance, are investing for the short-term, and want to maximize your potential returns. Remember, leverage can amplify your gains, but it can also amplify your losses.