How To Use Leverage In Long-Term Investing To Increase Returns

using leverage in long-term investing

Most traders are familiar with short-term leverage trading, but how do you use leverage for long-term investing success, and is it even possible? How much leverage should you use when investing in stocks with leverage for the long term, which leveraged investment products are available, and what are the leveraged fees involved? These questions and many more will be answered in this investment tutorial so keep reading if you are looking to increase your profits by x2, x5, or perhaps x10 over the long run.

Leveraged investment strategies have become increasingly more popular and the demand for high-quality investment products that offer borrowed money is on the rise with ETFs being the most popular investment vehicle. Other options such as derivatives products and certificates that are hosted by stock exchanges are viable options for those who want to get a bit more oomph in their returns. Even though investments on leverage are seen as a riskier endeavor, it’s far less risky than high leverage day trading and it can be quite profitable if you know how to control your risk.

You will learn

What does it mean to be leveraged in long-term investing?

To be leveraged in a long-term investment means that you are using borrowed funds to increase your position size in an attempt to boost returns. This can be used either by borrowing money from a bank or directly from your exchange platform if that feature is an option. When you open positions that are bigger than what your current account balance allows for it means that you are leveraging your long-term investments. This is something that is becoming increasingly more popular and with many new products released to retail investors, it’s very easy to get involved.

The main reason why investors choose to increase their buying power is to maximize returns of good investments such as stocks, indices, commodities, and sometimes funds. Those who succeed by picking the right investments while using up to 1:10 leverage in their leveraged portfolio can increase returns exponentially over the course of a couple of years and will enjoy a much better ROI overall. However, this does not come without added risks. When you boost your investing schemes with leveraged funds you also run the risk of losing money faster than normal and if you fail in your stock picking, you might end up getting liquidated.

When looking at long-term predictability between stocks vs forex vs crypto I think that stock trading and crypto trading are the two easiest markets to predict.

What is a leveraged investment?

A leveraged investment is any investment in any asset class where you use borrowed funds to increase your buying power. For example, a stock can be a leveraged investment if you have access to more capital either from a bank loan or a through a stock exchange that offers leverage. Nowadays there are great options for retail investors who are looking to boost earnings with a bigger stake in the market and the most popular long-term investment with leverage is ETFs. The reason why ETFs have grown in popularity as a leveraged product is due to the accessibility and the low cost offered.

Here is a list of the most popular asset classes and investment products that are used in combination with leverage:

  • Stocks
  • ETF
  • Index
  • Commodities
  • Funds
  • Options
  • Derivatives

These products all operate slightly differently which makes some of the better suited for investors who have a longer outlook on the market and some of them suit investors who are looking for returns in the medium term. Scroll down on the page to learn more about how these products work.

Should you borrow money to invest in stocks?

Most investors dream of taking their portfolio of a couple of thousand dollars to tens of thousands of dollars in a matter of a year or two. This is a very difficult task unless you have a lot of experience in picking good stocks and evaluating the overall market. However, if you are an average market speculator and you add leverage to the mix, you can increase your returns handsomely without taking on too much extra risk.

The decisions on whether you should borrow money to invest in stocks have to be made by each investor but if you are not sure whether it would be a good fit for you or not, I have listed some reasons for and against it. The table below is simply meant to help you make your decision a little bit easier. Read the list and see which side resembles best with your personality.

YesNo
I have a medium to high-risk toleranceI don’t want to take on extra risks
I am totally fine with losing all my invested money to make better returnsI don’t know how to control a leveraged position in the market
I understand how leveraged products work and I feel comfortable buying stocks with leverageI am afraid of getting liquidated
I have previous experience in how to structure a portfolioI don’t understand how these products work
I am fine with increased fees and commissionI want to pay as few commissions and fees as possible

Keep in mind that these are simply guidelines and they are not a make it or break it a recipe for everyone. Some of you might have very little experience with these products but you have sufficient experience from previous stock investing. Then I would recommend that you spend some time researching how it works and see which opportunities your local stock exchange or trading platform offers before you start.

Examples of leveraged investment products

Today there are various products to choose from for investors looking to increase their returns with added leverage. Depending on your time frame and your risk tolerance you are free to choose among several high-quality products that are offered by many stock exchanges at minimum commissions.

Keep in mind that whenever you add borrowed money into the mix there is an interest to be paid to your broker, much like the same way you pay interest to your bank on a mortgage. Below is a list of some of the most popular products for investors. Take your time to learn the differences and perhaps you can find a new product that is suited for your style of investing.

  • ETF – A leveraged ETF is an exchange-traded fund that can be found on many stockbrokers and it aims to track an underlying stock, index, or other asset classes. The goal with an ETF is to invest in something of high quality that has had a proven track record of growth and then adds borrowed funds to the mix to outperform the underlying asset. The standard leverage ratio for an ETF is between 1:2, 1:3, and 1:5.
  • Certificates – Certificates are usually offered by a bank or an online bank and they often track an underlying security such as a commodity, a stock, a bond, or a national currency. Certificates tend to have a higher leverage ratio than ETFs and can offer borrowed money with a ratio of up to 1:10. This increases the risk factor when compared to other products and only should only be used by investors with high risk tolerance and good experience in picking financial assets and know-how to manage their positions.
  • Derivatives – Derivatives are among the riskiest leveraged investment products on the market as they offer the highest level of leverage. Investors are only required to add a small initial investment as margin capital which can be as little as 1-2% of the total position size. This translates into leverage ratios of up to 1:100, something that should not be attempted by a novice investor. In the same way, like many other products, derivatives get their pricing from an underlying security such as a stock, a commodity, a currency, or an index. Many investors leverage trade crypto with derivatives.
  • Funds – Some funds are passively investing in other products that have built-in leverage. When you invest in a leveraged fund you usually don’t carry the risk of liquidation should the fund perform poorly during a market crash. This is why leveraging up with a fund can be a good strategy if you want to increase your output while maintaining your risk factor low. The cost of buying these funds is usually greater as you have to compensate for the interest payments that the fund is putting out.
  • Options – Options are somewhat complex products that offer sometimes high leverage and a fixed risk on each trade. The risk you pay is the premium you put down to open the option contract and the leverage is indicated in the contract you buy or sell. Options are great ways to increase returns on profitable trades while keeping your risk at a minimum. I would recommend options to investors who are having trouble managing their risk while the position is open or have problems with picking the right leverage ratio. Also, if you don’t feel comfortable with calculating your margin capital you can use leverage as a safe way to know how much you will risk on each trade.

To learn more about how investment products work read our guide on why brokers provide leverage. Also, test our leverage calculator for stocks to see how much margin you need to open your next position.

How to structure a leveraged portfolio

How to structure a leveraged portfolio you may ask? There are different ways to go about this but the main focus should always be longevity and long-term success. Opting for quick gains in an investment portfolio with increased buying power can be very dangerous and should be avoided. The first thing I would like to point out is that the lower your leverage ratio is, the higher your chance of success. There is a sweet spot around 1:1.5 to 1:3 which will give you a good boost but still keep your liquidation price far way from your buy-in price. Now let’s take a look at how you go about structuring your leveraged portfolio for long-term success.

Step 1

The first step is to decide how much money you can invest in your portfolio. The amount you choose should be an amount that you are comfortable losing if the market would suddenly collapse under your feet (which is a possibility). Keep in mind that you can always re-invest in your portfolio monthly or whenever your economic situation improves

Step 2

Depending on your personal risk tolerance and your capital you have different options of markets and products to choose from. Please adhere to our examples above to see which kind of product and asset class would suit you well. If you already know which asset class you are going to invest in, then the job is much easier. If you are new to investing with leverage, I recommend that you spend some time researching each product and asset class to see which one suits you best.

Step 3

Now it’s time to choose a stock exchange or an investment platform where you will structure your portfolio. I would recommend checking with your local exchanges, online banks, or even your personal bank for trustworthy solutions. You always want to choose a broker that has a reputation and is regulated by your local government, anything else is a big no.

Step 4

Now that you have your investment capital ready, you have selected your proper product and asset class, and you have a reputable stock exchange to work with it’s time to balance your portfolio so that you can enjoy long-term gains and still sleep well at night. A spread of index funds and stocks is a very traditional mix in a long-term leveraged portfolio which will let you follow the overall market up and down but with a little extra boost from the borrowed funds. Below is a table showing you three different ways to structure your portfolio seen from a risk perspective.

Low riskMedium riskHigh risk
60% Index funds
20% Blue chip stocks
20% Low leveraged ETFs
20% Index funds
40% Blue chip stocks
20% Medium cap stocks
20% Medium Leveraged ETFs
50% Medium cap stocks
50% High leveraged ETFs

How leverage increases your overall returns

Investors often wonder how leverage increases the returns in their investment portfolio and the answer is pretty simple. I will example with an example where our friend Joe is investing in stocks without leverage and his brother Jeff invests with leverage. Both brothers will invest in the same stock and they will both start with $2000 with the only difference being that Jeff will use a 1:3 leverage ratio in his portfolio. Both brothers will invest in the Tesla stock which will make a 25% gain in one year, let’s see how the different portfolios will react to this increase.

Joe 1:1Jeff 1:3
$2000 + 25% gain+$500+$1500

During this year of investing in Tesla, Joe made a profit of +$500 while Jeff made a profit of +$1500. But how does this work how is this calculated? See our calculation below to understand exactly how leverage boosts your investment profits.

Joe:
$2000 + 25% gain
$2000 + 0.25% = $500
Jeff:
$2000 x 3 = $6000
$6000 + 25% gain
$6000 x 0.25% = $1500

The simple explanation is that Jeff made 3 times his money due to the 1:3 leverage ratio he used.

What are the risks?

  • Larger losses/drawdowns – It is true that when you invest with increased capital you might suffer from larger losses or larger drawdowns or a bear market while the market is falling or is just being negatively surprised during the short-term. This is something that you should be aware of and in the same way that Jeff made 3 times his money during a year, you might lose a third of your money very fast. See our guide on “how does leverage affect losses in trading?” to learn more.
  • Higher fees – If you are a medium-term investor and like to buy and sell after just a couple of weeks of holding time you are going to pay higher fees only for buying and selling. Another fee you need to pay attention to is the overnight fee or the management fee that many brokers charge for the use of leverage.
  • Liquidation – The most immediate risk to investing with leverage is the fact that you can get liquidated. This happens when you have poor leverage risk management and your losses get out of control. A liquidated portfolio loses all funds and is left out at a shameful 0. You should do everything in your power to avoid this, including the use of a stop-loss.
  • Shady trading platforms – When you deal with leverage, some platforms might try to scam you off your money so always make sure that you are investing your money on a platform that is trustworthy, regulated, and preferably local in your country.
  • Margin call – A margin call is a warning signal from your broker that you are running out of funds due to your losses. This is something that can only happen when you invest with leverage.

Benefits and drawbacks

ProsCons
Greatly increased profitsRisk of large losses
Good for smaller accountsCan be very stressful during drawdowns
Shows profits fasterRisk of total liquidation
Safer than short-term leverage tradingHigher fees (buy/sell + management)
Very rewarding during a bull marketMany brokers are misleading

What other investors ask

Is investing with leverage a good idea?

Yes, it can be a great addition to your long-term portfolio as long as you keep your leverage ratios low.

What is a good leverage ratio for investing?

The best leverage ratio for investing long-term is between 1:1.5 and 1:3. Read our guide on the best leverage for beginners for more info.

Does leverage increase profit in the long run?

Yes, if you make accurate predictions of your investments leverage will increase the profit in the long run. Our guide on leverage trading tips will go in-depth in more detail on how to succeed.

Is investing with leverage worth it?

If you can handle the added pressure of bigger drawdowns during market downturns it’s worth considering adding leverage to your investment portfolio.

How do 3x leveraged stocks work?

When you invest in a 3x leveraged stock you increase your buying power by 3 times. For example, if your capital is $1000 and you invest in a 3x leveraged stock your new buying power will be $3000.

What happens if you lose on a leveraged investment?

Your investments lose money faster when you add leverage to the mix. Always keep an eye out for the margin capital in your investment account to avoid liquidation.


Glossary

Glossary

Contact

Contact us

How to use the website?

Leverage Trading is an educational website where new traders and investors can educate themselves on how to trade Forex, Stocks, and Crypto with leverage. Our main priority is you, our readers, and our ambition is to share our own knowledge from trading the financial markets for decades.

Our team of experienced investors and traders has a deep understanding how of leverage trading works and we intend to share our wisdom with all beginner investors who are looking to increase their output with added buying power.