Leverage

IMPORTANT: the below examples are for illustration purposes only. Any Spreads or margin requirements are subject to change. Ensure you fully understand the terms of any bet before opening any position. These examples exclude the impact of any financing and dividends.

One way to understand leverage is to compare it to buying a house. Imagine two investors buy identical houses for £500,000 each. Investor A pays 100% cash, and Investor B pays just 10% and borrows the rest. For the sake of simplicity we will assume the loan is interest-free.

After a few years the value of the houses rise to £750,000 and both investors decide to sell. Investor A is very happy, his £500,000 is now worth £750,000 and he has made a 50% profit on his original investment. However, Investor B is even happier. He paid £50,000, and borrowed £450,000; after paying off the £450,000 loan, he is left with £300,000 in cash. He therefore has a £250,000 profit on his original £50,000 investment, or a profit of 500%.

Had the price of the property fallen to £250,000, both investors would be looking at a loss. If they sold their properties, Investor A would make a loss of £250,000 (50%), and Investor B would lose his £50,000 deposit and need to pay a further £200,000 - a total loss of £250,000 (500%) - negative equity. This clearly demonstrates the high-risk nature of leveraged dealing.

For example:

If you bought £10,000 worth of ordinary shares, you would be expected to pay the full £10,000. However, if you opened a £10,000 Spread Betting or CFD position in an equity with a required margin of 10%, you would initially only need to pay £1,000 (10% of the value). This means that you control the same size asset with a much smaller amount of money - in this case £10,000 for just £1,000. This 10:1 ratio means you have an investment with 10 times leverage. Therefore, assuming there was no spread, if the underlying share price went up by just 5%, you would make a profit of 50% - although if it went down by 5% you would also make a loss of 50%.