In many cases you will use the cash you received using leverage to buy further investments. However, this cash can be used for anything you want. The interest rates on these loans can beat standard bank loans. You can even opt to never pay the loan back, which is essentially the ["buy, borrow, die"](https://smartasset.com/investing/buy-borrow-die-how-the-rich-avoid-taxes) strategy. When you die, whoever inherits your equities will get their cost-basis reset to the value at inheritance, which means no capital gains if they sell.
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Taking a cash loan from your stocks is essentially a leveraged trade. You have pulled money out while keeping your stocks, therefore you have increased your leverage. As an example, let's say I have $320k in stocks. Without any loan, my leverage ratio as defined above is:
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Taking a cash loan from your stocks is essentially a leveraged trade. You have pulled money out while keeping your stocks, therefore you have increased your leverage. As an example, let's say I have $325k in stocks. Without any loan, my leverage ratio as defined above is:
Both notional exposure and portfolio equity is equal, so my leverage ratio is 1. Let's say I now pull out $100k in cash, taking a margin loan. My leverage ratio becomes:
With different leveraging strategies I can achieve the same leverage in multiple ways. In this case I've just used a margin loan.
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Let's say instead I start with $320k in cash, and no equities. My leverage ratio is 1. I buy 1 /ES S&P 500 future, which has about $320k in notional value and requires about $20k cash set aside (margin requirement). As it stands my leverage ratio is:
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Let's say instead I start with $325k in cash, and no equities. My leverage ratio is 1. I buy 1 /ES S&P 500 future, which has about $325k in notional value and requires about $25k cash set aside (margin requirement). As it stands my leverage ratio is:
There is now $300k leftover in cash. If I start withdrawing cash, the leverage goes up, and I can easily match the 1.45 in the first example. Suppose I withdraw $80k in cash:
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There is now $300k leftover in cash. If I start withdrawing cash, the leverage goes up, and I can easily match the 1.45 in the first example. Suppose I withdraw $75k in cash:
I've essentially done the same thing as a margin loan, albeit for a smaller cash loan ($80k vs $100k). With the margin loan, there is the daily interest cost. With the futures "loan", the interest is baked in because the futures quote for a later date will be higher than the current index quote.
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I've essentially done the same thing as a margin loan, albeit for a smaller cash loan ($75k vs $100k). With the margin loan, there is the daily interest cost. With the futures "loan", the interest is baked in because the futures quote for a later date will be higher than the current index quote.
This example is mainly to show that these loan instruments are interchangeable and it all comes down to how you achieve leverage.