“After losing everything, I went on a quest to find out how money really works, how I could get control of it, and how I could have confidence in handling it.” -Dave Ramsey

Leverage can be defined as the utilization of tools which can increase the rate of return on any investment. By increasing the rate of return, the investor has a higher profit potential. However, with the potential for a higher rate of return there is also greater risk. An example of this form of leverage is using a financial margin.

Leverage can also be produced through the use of options, futures, and other financial tools. It also refers to a companies debt which was acquired to pay for it’s assets. A corporation which has a ton of time and very little equity is an example of high leverage.

For example, if a company was created with an original investment of $10 million dollars from people investing in it, then the company has $10 million dollars in equity. This is the money that will be used to run the business.

However, a company can also use that equity to borrow money against. For example, it may receive a $30 million dollar loan based on the $10 million dollar initial investment. This is then used to create any for more value for the investor. However, if the business defaults on it’s debts or goes out of business, investors will lose all their profits as well as their original investment.

A common place example of leverage is taking out a mortgage on a house. You make a down payment with the cash you have on hand and then use leverage to finance the rest of the house.

When the mortgage is completely paid off then you can keep whatever profit was made on the sale of the house. Another example of leverage is when an investor has a little bit of money to invest and borrows the rest from a broker. If the stocks that are being invested in increase in price, the investor can sell for profit, pay off the broker and keep the rest for himself.

Working with leverage is a high risk game and should not be entered into lightly. If you default on your home mortgage, even once the lending company can take away your house even if you have met your monthly obligations for years. The major disadvantage to using leverage in the stock market is that you can lose much more then just your original investment.

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