April 29, 2007, 6:38 am

Leveraging strategies risks

by: The Financial Blogger    Category: Leveraging Strategies
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Recently, I spoke about leveraging strategies and their basics. Even if there are huge advantages of using leveraging strategies to create wealth, there are also important risks to take in consideration. However, these risks can be controlled.

Timing risk

The timing risk is crucial when you are planning to withdraw your investment. As you have a debt related to your assets, you must remain conservative in your investments before you cash in your investment. Imagine people that had all their assets in the techno funds and planned to retired in 2002. They must be still working right now! If you use an investment loan, a line of credit or the Smith Manoeuvre, you must determine your investment horizon. When you approach from the date of withdrawal, you can move your portfolio to fixed income products or high dividend companies stock. Therefore, you will be assured to retire in time.

Interest risk

In the case of most leveraging strategies, the interest rate charged on the loan will be variable. This is your way to get closer to prime rate and then reduce your interest cost. However, no economists will guarantee that prime rate won’t go back to 10% in five years from now. If it’s ever the case, your investment would have to give more than 10% in order for you to make money. Aiming 10% yield means volatility and therefore big fluctuation. I don’t know about you, but I wouldn’t feel comfortable to loose 15% of my portfolio in a span of one month. This could be the case if you want big returns. In addition to that, you would still owe money to the bank…

Market risk

The market risk is inherent for any investments. Nobody can predict how the market will go in the future. Except Warren Buffet! Even then, he won’t let you know;-) As you are playing with others’ people money, I suggest you have a well diversified portfolio. Concentrating all you assets in one industry or a small group of companies could be very profitable. Yet it could also lead to catastrophe. Aim 6 to 8% and pay 4 to 6% of interest. You will make money on the long run.

Liquidity risk

Another risk related to leveraging strategies is the liquidity risk. Depending on your type of investments, you might not be able to cash in your funds at anytime. Some mutual funds will have close end fees if their not hold for a certain period of time. Therefore, you must be careful in your investment product selection and build your portfolio according you your investment horizon.

Most of these risks can be controlled or reduced by the help of a financial consultant, banker or financial planner. Once again, I suggest to meet with more than one and to choose one that is familiar with the leveraging concept. With a good plan, you’ll end up with more money in your pockets!

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