Leverage and Borrowing to Invest: Understanding the Risks and Rewards

Leverage — borrowing money to invest — is one of the most powerful and most dangerous tools in an investor's toolkit. Used appropriately, in the right circumstances, leverage can enhance returns and provide useful financial flexibility. Used carelessly or at scale, it can transform a temporary market setback into a permanent, devastating capital loss.

This guide explains how investment leverage works in practice, the forms it typically takes for HNW investors, the mathematics that govern it, and the conditions under which it may — and may not — make sense.

What Is Investment Leverage?

At its simplest, leverage means using borrowed money alongside your own capital to make an investment. If you have £100,000 and borrow a further £100,000, you invest £200,000 — twice your equity. Any return (or loss) on the £200,000 is measured against your £100,000 of equity, so your effective return (or loss) is doubled.

Property investors have used leverage for centuries: a mortgage is simply leverage applied to real estate. Buy a house worth £500,000 with a £100,000 deposit and a £400,000 mortgage — you are 5× leveraged. A 10% rise in the property value doubles your equity; a 10% fall wipes out half of it.

Investment portfolio leverage works on the same principle, though the specific instruments and terminology differ.

Forms of Investment Portfolio Leverage

Margin lending: A stockbroker lends you money against the value of securities you already hold as collateral. You can use the borrowed funds to buy additional securities. The broker sets a "maintenance margin" — if the portfolio value falls below a certain threshold relative to the loan, you receive a "margin call" requiring you to either repay part of the loan or deposit additional collateral.

Lombard lending: Private banks and wealth managers offer "Lombard" credit lines — secured lending against a portfolio of investment assets (the portfolio is pledged as collateral). Lombard lending is typically more flexible and at lower rates than standard margin lending. Rates are usually floating (SONIA or SOFR plus a spread of 1-2.5% for high-quality borrowers). Lombard lines are used by HNW investors for liquidity management (accessing cash without liquidating investments), investment purposes (borrowing to buy additional assets), and for premium finance (borrowing to pay insurance premiums).

Leveraged funds: Many investment funds use internal leverage — hedge funds commonly run at 2-4× gross leverage, using derivatives and short positions alongside long positions. This leverage is inside the fund and is largely invisible to the investor, though the fund's prospectus discloses the strategy. Listed investment trusts can also borrow (gear up their portfolio) at the fund level.

Derivatives: Options, futures, and CFDs (Contracts for Difference) provide leveraged exposure to underlying assets without the need for borrowing in the traditional sense. Buying a call option on an index, for example, gives leveraged exposure to the upside for a fraction of the cost of holding the index directly. However, derivatives can expire worthless (with the full premium lost) or create unlimited losses in certain configurations — they are significantly more complex than straightforward borrowing.

The Mathematics of Leverage

The arithmetic of leverage is unforgiving. Understanding it precisely is essential.

Scenario 1 — Profitable with leverage:

• Own equity: £100,000
• Borrowed: £100,000 at 5% interest (£5,000/year)
• Total invested: £200,000
• Investment return: 10% on £200,000 = £20,000
• Less interest: £5,000
• Net return: £15,000 on £100,000 equity = 15% return (vs. 10% unlevered)

Scenario 2 — Loss with leverage:

• Same structure as above
• Investment return: -10% on £200,000 = -£20,000
• Plus interest: £5,000
• Total loss: £25,000 on £100,000 equity = -25% loss (vs. -10% unlevered)

Scenario 3 — Moderate loss approaching margin call:

• 3× leverage (£100,000 equity, £200,000 borrowed, £300,000 invested)
• Investment falls 20%: £300,000 × -20% = -£60,000 loss
• Equity remaining: £40,000 (60% of original equity wiped out on a 20% market fall)

The key observation: leverage does not change the direction of return, but it changes the magnitude proportionally. And it imposes a fixed cost (interest) that must be earned before any net benefit accrues. If the investment earns less than the cost of borrowing, leverage destroys value even in a positive return environment.

Lombard Lending in Practice

Lombard credit is the primary form of investment leverage available to HNW individuals through private banks. The typical mechanics:

• You pledge an investment portfolio (equities, funds, bonds) as collateral.
• The bank lends a percentage of the portfolio value — the "loan-to-value" ratio (LTV) depends on the type and quality of assets. Highly liquid equities and government bonds may be lent against at 70-80% LTV; less liquid or more volatile assets at lower percentages.
• Interest is floating — typically SONIA (UK) or SOFR (USD) plus a spread.
• There are no fixed repayment schedules (unlike a mortgage) — it is a revolving credit facility.
• If the portfolio value falls and the LTV breaches a threshold, the bank will issue a margin call: repay enough of the loan, or deposit additional collateral, to restore the LTV below the trigger.

The 2020 COVID market crash is the defining example of why margin call risk is not theoretical. In March 2020, markets fell 30%+ in weeks. Investors with Lombard borrowing against portfolios received margin calls at the worst possible moment — they were forced to sell assets that had already fallen sharply, crystallising losses and eliminating any potential for recovery. Those who could not or did not meet the call saw their portfolios sold by the bank at distressed prices.

When Does Leverage Make Sense?

Leverage is not inherently wrong — it is a tool. It is appropriate in specific, defined circumstances:

Short-term liquidity bridge: If you need cash temporarily but do not want to sell investments (perhaps because of a tax event, or because you expect to receive income shortly), a Lombard line provides a bridge. This is the most benign use of investment leverage — the period is short, the reason is clear, and the borrowing is paid down quickly.

Property mortgage: The conventional case for leverage. Long-dated, secured lending against an asset with demonstrated long-run appreciation. The mortgage rate is knowable and fixed (or hedgeable), and the borrowing is sized appropriately to the income stream and asset value.

Premium finance for life insurance: Borrowing to pay large insurance premiums (particularly on whole of life or universal life policies) is a structured, specialist application of leverage used in estate planning for very large estates. Should only be done with specialist advice.

Highly asymmetric opportunities: Where you have high conviction that a specific opportunity offers returns materially above the cost of borrowing, and where the downside is clearly bounded. This is rare and requires genuine analytical rigor — not just optimism.

Within a diversified portfolio, in modest amounts: A 15-20% leverage ratio (borrowing equal to 15-20% of portfolio value) is materially different from 100% or 200%. At modest levels, leverage provides meaningful return enhancement with manageable downside. The risk of a catastrophic margin call at moderate leverage levels is much lower than at high leverage levels.

When Leverage Does Not Make Sense

• When the investment does not reliably earn above the cost of borrowing. If your expected return on an investment is 6% and you borrow at 5%, the net benefit (1%) is too thin to justify the amplified downside risk.
• In highly volatile assets. Leverage in volatile assets dramatically increases the probability of a margin call. Do not use leverage in speculative, high-volatility positions.
• When you cannot absorb a margin call. If meeting a margin call would require you to sell other assets at a bad time or take on further financial stress, the structure is too fragile.
• Over the long term as a structural position. The costs of leverage (interest) compound over time. Long-term leveraged positions require consistently high returns to justify the cost.
• If you do not fully understand it. The mechanics of leverage seem simple but the interaction with market volatility, margin calls, and interest costs can surprise. Financial advice before using leverage is strongly recommended.

How Global Investments Can Help

Our advisers work with HNW clients who use leverage as part of their financial strategy — whether for portfolio liquidity, property investment, or specifically structured opportunities. We can help you understand the true cost and risk of leverage in your specific situation, stress-test your portfolio against adverse scenarios, and ensure any borrowing is proportionate to your overall financial position. If you are currently using or considering Lombard lending or other forms of investment leverage, speak to us before extending or increasing your position.

This article is for general information only and does not constitute financial advice. Leverage increases both potential gains and losses. All investments and borrowed positions carry the risk of loss. Always seek professional advice before using investment leverage.