TY - JOUR T1 - The Case for the Cautious Use of Leverage JF - The Journal of Wealth Management SP - 24 LP - 34 DO - 10.3905/jwm.2017.19.4.024 VL - 19 IS - 4 AU - Wei Ge Y1 - 2017/01/31 UR - https://pm-research.com/content/19/4/24.abstract N2 - After the global financial crisis, the word “leverage” became taboo among investors. This article argues that leverage can be a useful financial tool, however. When used appropriately and cautiously, it can help investors achieve many investment objectives without incurring significant additional risk. If investors forgo this helpful tool entirely, they may find it harder to achieve certain financial objectives or suffer implicit costs, such as relying heavily on “alternative” assets, high-beta securities, or moving large allocations to risky assets. The author examines the various abuses of leverage and acknowledges that leverage abuses can happen easily, and the results can be catastrophic. However, employing leverage properly can bring significant benefits, such as obtaining ideal risk-adjusted returns and avoiding suboptimal investment vehicles.The author compares leverage with power tools. Although leverage can help investors achieve many investment objectives, investors should take significant precautions and employ the best practices of leverage, including sound risk management, moderation, diversification, and reliable financing. Three potential applications of cautious leverage are examined—a simple levered portfolio to enhance returns, the liability-driven investment framework, and the risk parity asset allocation methodology. Two unlikely worst-case scenarios are discussed that may harm a levered portfolio—hyperinflation and a U.S. debt default. Finally, the author emphasizes again that leverage is an effective financial tool, although as with a power tool, great caution and protective measures need to be utilized before it can be employed safely and effectively. With the help of leverage, investors can achieve many investment objectives in today’s difficult and complicated investment environment.TOPICS: Wealth management, risk management, financial crises and financial market history, performance measurement ER -