In many cases you will use the cash you received using leverage and 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 you have $320k in stocks. Without any loan, your 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 $320k in stocks. Without any loan, my leverage ratio as defined above is:
Both notional exposure and portfolio equity is equal, so your leverage ratio is 1. Let's say you now pull out $100k in cash, taking a margin loan. Your leverage ratio becomes:
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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:
Utilizing any of the above leveraging strategies, you can achieve the same leverage in multiple ways. In this case we've just used a margin loan.
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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, requires about $20k cash set aside (margin requirement). There is now $300k leftover. If I do nothing with that cash, my leverage is still 1. 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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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 requires about $20k cash set aside (margin requirement). There is now $300k leftover. If I do nothing with that cash, my leverage is still 1. 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: