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Thursday, February 25, 2010

The Power of Leverage

Introduction

I recently thought of a "sad" fact. Suppose I keep to current lifestyle and succeed in increasing my networth by an average of $100k per year from both savings and investments, I would still need 10 years to reach $1 mil, or 30 years to reach $3 mil! While the millionaire goal is achievable, the speed is slow. That's the motivation for me to write this article, which took me quite a few hours!

So, how is it possible that there are people who managed to achieve the multi-millionaire status while young when they are not the the soccer players in EPL, the basketball slam dunkers in NBA or any of the hot celebrities?

The answer is leverage.

To the ultra super conservative, leverage is a word to stay away from. They fear it, they despise it, they condemn it. They think it is risky. And that's likely to be because their idea of leverage is primarily in terms of money.

However, leverage is not risky when managed well. The chinese proverb below best describes what I think of leverage: 水能载舟,亦能覆舟. Literally, it means that water can both carry a boat and sink a boat. Similarly with fire, it can both be useful and harmful. It all depends on how you use it. The power lies in the hand of the one wielding it.

Success in any endeavours can be accelerated by using leverage. You could be successful without making use of leverage, but it means you have compromise the level of success, speed, and time necessary to get to each level.

I mean, can you imagine a one man show running a MNC or a big business?


What can we leverage on

There are many things we can leverage upon to accelerate our path to financial freedom. Some examples I have in mind:
(i) Money
(ii) Time
(iii) Expertise and credibility
(iv) Emotions
(v) Technology

Of course, one could leverage on their charm, beauty, parents, home, many things, but I shall not touch on those here.



Leverage on Money

Leveraging on money/cash is very commonly used in today's world. Whenever we buy a house, a car, a condo... or whenever we use CFD, play forex, make use of Share Financing, play warrants/options... we are making use of money leveraging.

Even for businesses, when they source for venture capitalists, go for IPOs, they are in a way making use of money leverage.

The key to leveraging on money is to make more than the interest on the borrowed money. Of course, whether one will succeed will depends on one's strategies, acumen, meticulous planning, hard work and ideas.



Leverage on Time

All businesses and MNCs leverage on the time of their employees. As mentioned in the blog post on why get a job, the salary an employee gets is always less than the value he/she creates. In a way, the employee's time is leverage upon.

Business owners will never grow big without making use of this leverage as their time could be spent much more productively on the more important aspects of the business. Mathematically, isn't it better to spend $2k/month to hire a secretary to file the documents and spend that same amount of time generating an additional $5k/month?

"I rather have 1 hour of 100 people's effort than 100 hours of my own effort", someone (whom I forgotten) once said.



Leverage on Expertise and Credibility

Individuals can make full use of this leverage to propel themselves up. For example, for me, I propel myself up in the tuition arena by leveraging on my years of experience in tutorign students. I leverage on my credentials and I will get testimonials from my students as well to further leverage on my credibility.

Businesses can make full use of expertise and credibility leverage as well. The tuition centre I'm teaching in makes full use of this form of leverage. They leverage on the expertise and credentials of tutors like me who had years of experience coupled with wonderful and rare qualifications. The centre owners themselves do not know how to teach tuition at all, yet they are running the centre successfully.



Leverage on Emotions

Leveraging on emotions can mean leveraging on your own emotions, or other people's emotions, to your own benefit. You could make use of emotions to spur yourself on to achieve greater things. You could also make use of the emotions of others to do things to your benefit, i.e. impulse buying, motivating your workers, giving good customer service to enhance customer loyalty, etc. The Chinese proverb 激将计 describes this well.



Leverage on Technology

This blog is a real life example of leveraging on technology. Technology, or rather, the internet, is so prevalent nowadays. I can reach out to many people over the world without travelling. An added advantage is that what I want to say, what I want to converse out to world, can be typed out on this blog, and continue to get shared around the whole even when I sleep.

Amazon, Google, Facebook, Youtube, Ebay, are companies that made it big by leveraging on the power of the internet technology. So did many successful internet marketers and full-time bloggers.




Real life example of the power of leveraging

Look at Donald Trump and his Trump Tower, and multi billion real estate business. Did he use his own money for the whole building? No way. He leveraged on other people's money. In addition, he leveraged on the experience, expertise and credibility of architects and engineers for the blueprint of his projects. He leveraged on the time of construction workers to build the building. He leveraged on the motivation and drive of his employees. Finally, he also leveraged upon technologies like Media to market himself (via The Apprentice).

Did he over-leverage? Perhaps, as seen by the fact he almost went bankrupt before. But that's not the key here. Without the power of leverage, he would not have achieved what he has in his lifetime. There's a direct correlation between the amount of leverage and the speed to achievement.


Conclusion

When we do things alone, and without leverage, we will have to rely on our own time, contacts, money, experience, credibility, emotions, expertise, etc. It's like splitting yourself into many portions and this will hinder and slow down your path towards achievements and successes.

Leverage is a powerful tool to leverage upon :) If you can embrace leverage as a strategy or tool, you will find that you will not need to be everything to everybody anymore.

9 comments:

  1. Hey momoeagle, i am hyruga. Yeah the power of leverage is tremendous but also very risky.

    I personally think that you already have a lot of money. If we add in all the money you are going to earn from your job, bonus, dividends from stocks plus tuition, there isnt really a need for you to leverage. (unless you are buying a home)

    I think as long as you trade wisely and efficiently, you can make as much money as most full time traders, even with a full time job.

    I am currently thinking of setting up a poems protrader account that costs about $80 per 3 months. It will enable me to cutloss efficiently while working full time with no worries. What do you think? Do you have any better trading platforms to recommend?

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  2. Hi Hyruga,

    thanks for visiting and complimenting. Money is just a number game... and as a very mathematics person, I like to play with numbers, and see how good I am with percentages, etc. :)
    Indeed, I might be buying a home soon too, so my leverage will primarily on that first.

    The problem is that I'm starting to reduce trading and more of longer term investing, so I don't think I will be able to manage as much as full time traders.


    As for the poems protrader account, I have no comments as I have not used it before. But I know UOB KayHian is able to send you an sms as soon as a target price is reached.

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  3. HOW ARE YOU MY FRIEND? MAKE ANY MONEY LATELY? HOW DO I CONTACT YOU IN PRIVATE?? DO YOU HAVE ANY E MAIL ADD.?

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  4. YOU SAW HOW MY CHINA ENVIROMENT HAVE ADVANCED? AWESOME RIGHT? ANOTHER BIG WINNER FOR ME!!!!!!!!!

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  5. Hi Uncle Mindgames! Your China Env damn power!

    Congrats on huating big big!

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  6. I would like to comment about traders being overly concerned about indexes like the standard and poors five hundred. Why not concentrate your efforts on concenrtated narrow sectors though exchange traded funds.Their are now over fifty single country funds available and maybe over 100 narrow sectors like airlines steel solar so why the concern for the nasdaq or the standard and poor five hunderd each one of these countries and sectors is a index of and by itself. The solar exchange traded fund {TAN} is now down 90% from its high in 2007. If I were an investor or trader. I would simply look for any exchange traded fund or closed end fund that does not use any leverage in their portfolios and start buying after their is a 75% decline from its all time high' and than buy twice as much if that exchange traded fund or closed end fund declines another five percent an 80% decline from its all time high' buy twice as much at a 85% decline from its all time high buy twice as much at a 90% decline from its all time high' and finally buy twice as much at a 95% decline from its all time high. Now I know that some of these funds will not decline 90% from their all time highs maybe not even 80%. Another thing that you might be wondering about I would run out of money If I followed that method right wrong. Example take one hundred thousand dollars. Buy 500 dollars of xyz fund at 25 dollars off 75% from its all time high of 100 dollars. Buy 1000 dollars of xyz at 20 dollars off 80% from its all time high of 100 dollars. Buy 2000 dollars of xyz at 15 dollars off 85% from its all time high of 100 dollars Buy 4000 dollars of xyz at 10 dollars off 90% from its all ltime high and finally Buy 8000 dollars of xyz at 5 dollars off 95% from its all time high for a total of 15500 about 15 percent of total cash assets. I am giving an example here the actual investment amount for an exchange traded fund or closed end fund that you are investing in would be the percentage of cash in the account not the percentage of both equities and cash combined.. The investment percentage for each fund would be based on the cash portion of your total portfolio at any given moment in time simply because the dollar amount of cash in the account would change fairly often, So if you have 40% of your portifolio in cash you would use that as your basis for determining your allocation not the total value of both cash and equities. The idea is to have your biggest positions in the funds that have declined the most and the smallest positions in the funds that have declined the least. Also keep in mind when you buy an exchange traded fund you are buying a basket of stocks so the fund cannot go to zero unlike a stock.Than when any fund has regained three quarters of its value that would be 75 dollars in the case of eyz use a 10% trailing stop loss to protect your gains. Who knows you may sell out of the fund with in 90% of its all time high. And their you have it a simple but brilliant strategy. Also keep in mind that you will have tremendous diversification using this method which would mean you could easily employ some leverage in the form of buying on margin. Even without margin I believe that this could be one of the greastest investment methods of all time you will be almost assured of crushing the performance of the standard and poors five hundred. The.Only thing that could change this outcome would be a great worldwide depression.

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  7. Leverage can be a double edge sword of sorts. Using leverage in a wise way can sometimes enhance investment returns. But using it in a very irresponsible way can be very destructive.

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    Replies
    1. Yes,I agreed. Your emotion control must be high before considering the use of leverage tools like CFD and etc. You just need one good mistake to wipe off your savings and investments. Use with care.

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