The Magic of Leverage

Leverage is everything in life. To understand how the world operates, you must start seeing the world through who has leverage.

Who has the leverage if I want to install a vending machine inside a restaurant? The restaurant owner has the power, so I need to approach this person accordingly. I need to anticipate how to entice them to allow my machine into their business.

For this article, we will focus specifically on financial leverage. Leverage is a double-edged sword—great in good times and disastrous in the bad.

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The basics of leverage. Leverage is debt. There is good and bad debt; we consider leverage good debt. But this is when we use it moderately. 

We use leverage to increase returns and accelerate wealth creation. The most common form of leverage is taking a home mortgage on a rental property. 

Robert Kiyosaki says clearly, “It is much faster to borrow $1 million than save $1 million.” This quote is the basis of leverage. Please read the book “Unfair Advantage” to understand even more about leverage, debt, and financial education. 

Increasing your returns. Let’s say I have $100,000 to invest in real estate. I moved to a small city in Mississippi where I could buy a starter home for $100,000.

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I buy the home with no mortgage and can safely live the rest of my life with my military pension. Now, let’s add leverage to the equation. 

I can buy five homes with 20% down each ($20,000) using leverage. I will have $400,000 in loans. Each home’s mortgage is $600/month, and I can rent for $850/month each.

I even added a roommate to my primary residence for $500/month. My five mortgages are $3,000/month, and I am bringing in $3,900/month in passive rental income.

I am now cash-flowing $900/month plus my retirement. Not to mention rents will increase over time, and my home prices should also appreciate. 

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Eventually, I can pay off all the loans and have five homes with zero debt. I didn’t even pay out of pocket for the homes, except for my initial down payment.

Don’t get carried away. Indeed, leverage can be a very seductive mistress. Once you have assets, you can use leverage anywhere you want. You can even cross-invest between asset classes.

In the above example, we started with $500,000 in real estate holdings. What happens when the prices double to $1 million? That’s right; I can borrow against the higher amount.

I can use that borrowed money to invest in cryptocurrencies and the stock market. I could also start a business like a food truck or rental cars.

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But what if the housing rental market crashes? What if all your rents get cut in half or two of your homes flood? This is where leverage works against you. You are still on the hook to pay for your loans. 

Take it slow. I know the mantra on the internet is to get rich quickly. However, don’t buy the hype. We want to get rich by using the power of compounding, not leverage.

I am a massive fan of using leverage, but you must take some essential steps first. Are you debt-free in your personal life? If not, read my Debt-Free at Any Age series (20s, 30s, 40s, 50s, 60s, 70s).

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Next, have you read books about the asset class where you plan to invest? Here is a quick rundown of some asset classes.

1. Financial Mindset: Become CEO of Yourself 2 (Free 196-Page PDF)
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Finally, and most crucial, do you have an emergency fund to bail you out in times of need? If you take it slow, leverage can be your best friend. If you over-leverage and count on “the market increasing in value,” you may not survive a crash.

Understanding infinite returns. If you know how to leverage infinite returns, you won’t get yourself in trouble. An infinite return is when you own an asset without tying your money inside the investment. Let’s explore. 

For example, say I have $50,000 inside my M1 brokerage account. I can take a loan against this amount for $10,000 at 3%. 

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I can then buy a storage shed to place on my property and rent it to customers. I rent it for $300/month and put the entire $300 towards paying off the loan.

Here is the most crucial part: I pay off the loan entirely before assuming more leverage. Once I pay off the loan, I have my shed inside an infinite return. I can now do the same thing again and buy another shed. 

If you master this technique, you will have a fleet of storage sheds with no loans against them. They can generate you out-sized returns for 20-30 years. 

We can use this logic on the five houses from before. Instead of doubling down when prices reached $1 million, we would do the opposite.

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We would use our cash flow to pay off one home. Then, we would use the additional cash flow to pay off each remaining home until we pay off all five houses. 

Yes, it is boring to pay off your loans, but it is the safer way. We can use leverage but also be responsible at the same time. 

Time as leverage. You can also use time as leverage. You can do this by creating products that add value. I am running a blog and book business that I use my time as leverage. 

Everything I make is a profit outside blog costs ($300/year). When using time as leverage, you must exchange any profits for an asset. If you don’t, you’ll be trading time for money for the rest of your life.

Pumpkin Spice & Royalties

My article “From Dirt to Dividends” gives an example of exchanging fruit from your garden for preferred shares on the stock market. 

Don’t fear leverage; respect it. As your financial education advances, you’ll understand that the wealthy use leverage in all aspects of their life. 

They leverage people inside their businesses. They leverage their funds to create money from thin air. Successful people also respect leverage. 

Say you need $1,000 to start a lemonade business outside your home. You have $10,000 in your high-yield savings account. You can easily take out the money to buy it, but that requires no financial sophistication. Here is how rich people think differently.

1. Using their $10,000 as collateral, they can give the business proposal to family members, collecting $200 from five members.
2. Invest $5,000 into M1 Finance, and take a $1,000 loan against their account.
3. Invest $10,000 into a high-yield closed-end fund earning 10%. Collect $1,000 in dividends for a year and buy the stand. They can buy a new stand every year from here on out.
4. Create 100 shares of the business, and find investors to purchase the shares.
5. Use a credit card to buy the stand, ensuring it has no interest for six months.
6. Take a personal or business loan for $1,000.

The key is that rich people see things through the lens of leverage in all matters. Now, you can exchange $1,000 for $1 million. They can use the same techniques to acquire $1 million to invest in a business.

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Conclusion. Keep yourself and your family as debt-free and “lightweight” as possible. Keeping your personal affairs in order reduces the effects of leverage during a downturn.

Plus, if you can keep your spending in check, you can also control your use of leverage. You want to survive the game of life.

In life, the person who can survive the longest wins. The power of compounding requires time as its most significant factor. Therefore, if you can stay in the game for 50-60+ years, you are almost guaranteed to win.

Leverage can take you out of the game early. You can use it, but respect the heck out of its power. You don’t want to restart the game of life; you only have so many attempts. 

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Disclosure: I am not a financial advisor or money manager, and any knowledge is given as guidance and not direct actionable investment advice. I am an Amazon Affiliate. Please research any investment vehicles that are being considered. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it.  I have no business relationship with any company whose stock is mentioned in this article. All Right Reserved Military Family Investing