Leverage Definition and Legal Meaning

On this page, you'll find the legal definition and meaning of Leverage, written in plain English, along with examples of how it is used.

What is Leverage?

(n) Leverage is the advantage taken by a buyer by using external finance or assistance to buy a property. With external finance a buyer can acquire a property far more costlier than his resources.

History and Meaning of Leverage

Leverage is a term that originated in physics and engineering to describe the technique of using a lever to move heavy objects with less effort. In finance, leverage refers to the use of borrowed funds or other financial instruments to increase the potential return on an investment. By using leverage, an investor can potentially earn a higher return on their investment than they would have by investing their own money. However, if the investment doesn't perform as expected, the use of leverage can also magnify the investor's losses.

Examples of Leverage

  1. A real estate investor uses a mortgage to buy a property that is more expensive than they could afford to pay for with cash. By using leverage, they are able to benefit from the property's appreciation over time and potentially earn a higher return on their investment.

  2. A stock trader borrows money from their broker to purchase shares of stock. If the stock goes up in value, the trader can sell their shares and pay back the loan with a profit. However, if the stock goes down in value, the trader may not be able to repay the loan and could potentially lose more money than they invested.

  3. A company takes out a loan to fund a new project. By using leverage, they are able to increase their potential profits from the project. However, if the project does not generate the expected profits, the company may not be able to repay the loan and could face financial difficulties.

Legal Terms Similar to Leverage

  1. Margin: The use of borrowed funds to purchase securities.
  2. Collateral: Property or assets that are pledged as security for a loan or other obligation.
  3. Securities lending: The practice of lending securities, typically held in investment portfolios, to other investors in exchange for a fee.