Dumb question about stocks

[Lloyd Blankfein]

I wondering about the Twitter share price. Before it was like $26, now it's like $70. So if you have $100K and you leverage it to like $500K, and you bet on Twitter on IPO you would become a millionaire just like that? Is it that simple (if you get lucky), or is there some hidden stuff?

 

[Valued]

I wondering about the Twitter share price. Before it was like $26, now it's like $70. So if you have $100K and you leverage it to like $500K, and you bet on Twitter on IPO you would become a millionaire just like that? Is it that simple (if you get lucky), or is there some hidden stuff?

Well sure if the price doubles and you have 500k exposure you now have one million dollars. If the price triples you now have 1.5m etc. As to whether it's that simple, of course not. The price might also halve and then lose your 100k and you owe another 150k and then your positions get closed out when you can't pay and you go bankrupt. You can set a stop loss but even say you set a stop loss of 5% on the leveraged 500k you lose 25k or 25% of your investment. You are risking everything including bankruptcy just to get lucky.

The good thing is I don't think anyone would lend you that sort of money... and I am not going to tell you how you could get that kind of leverage without an asset/income check because you will do something silly by the sounds of it. Especially because you call it a "bet" and not an investment. You seem to want to gamble away everything you have.

That being said if you did go back in time and you could participate in the twitter IPO, knowing that the price will jump significantly you would of course invest. This is the power of hindsight. In the real world you don't have that and you need to manage your position sizes so you don't lose it all.

 

[Serpentis]

Don't forgot that you still have to pay back what you borrow. So in that example you borrowed $400k, assuming no interest and no fees (which won't happen, those will always eat up more) at the end you'd have $1million portfolio with a $400k outstanding debt, or $600k net.

A highly leveraged position on an IPO is a very dumb idea, and Valued is right, no firm would ever let you borrow anything near to that amount to invest in stocks. You'd need to go into real estate to get anything near that kind of leverage on your capital.

 

[Smurf1976]

Yes you could make a lot of money if a stock price doubles and you've invested using leverage. You can also crash and burn in spectacular fashion with leverage if you don't know how to go about it and what limits need to be applied.

I'm not saying don't invest in stocks. But I'd very, very strongly recommend that a beginner uses no leverage whatsoever and only a portion of their own funds. You're better off getting rich slowly rather than going broke quickly.

Someone with no experience with shares using leverage to invest is akin to someone who has never driven any car deciding to give it a go in an F1 car on a major highway during peak hour. It's just asking for trouble.

 

[CanOz]

More risk = more reward

More risk is still more risk though....

 

[tech/a]

More risk = more reward

More risk is still more risk though....

You can and should use leverage WITHOUT increasing risk.

 

[CanOz]

You can and should use leverage WITHOUT increasing risk.

What do you mean tech? I agree you use the leverage to just take more signals (trades), but staying within your 2% or whatever risk rule but still, more trades equals more portfolio heat = more account risk yeah? Risk per trade is the same...

 

[tech/a]

Why would you use leverage that way?

Most do but it's not the way to use leverage without increasing risk.

 

[CanOz]

Why would you use leverage that way?

Most do but it's not the way to use leverage without increasing risk.

Well Nick taught me to use leverage to take more signals and not increase position size...

 

[beachlife]

I use leverage to minimise the amount of capital I need to have sitting in the brokers account. The $ risk per trade is no different. For example say I have a $100k allocated for a trading account and want to risk $2000 on cba with a $2 stop, that's 1000 shares I can buy.

If I buy the share I need around $77,000 in my account
With a cfd I need $3850 for margin and $2000 to cover the potential loss, so $5850 but lets round it up to $10k.

In both cases the risk is the same ($2000), but with the cfd I can leave the bulk of my trading capital somewhere else, in a mortgage offset for example. If the broker goes bust, the bulk of my capital is safe.

And yes it is also a sensible way to get more trades on, with proper risk management.

 

[robusta]

I wondering about the Twitter share price. Before it was like $26, now it's like $70. So if you have $100K and you leverage it to like $500K, and you bet on Twitter on IPO you would become a millionaire just like that? Is it that simple (if you get lucky), or is there some hidden stuff?

Twitter shares fell like 12.99% the other day, thus could have happened like anytime.

 

[tech/a]

Well Nick taught me to use leverage to take more signals and not increase position size...

Why wouldn't you increase position size if risk remained the same.
In doing so allowing you to have another position.

I'm sure this is what he was saying.
Not buying more positions using leverage
so you could have more positions.
IE continue buying (Available signals) until leveraged funds
Ran out.

Example.
Of what I believe to be correct use of leverage.

 

[rnr]

What do you mean tech? I agree you use the leverage to just take more signals (trades), but staying within your 2% or whatever risk rule but still, more trades equals more portfolio heat = more account risk yeah? Risk per trade is the same...

The way I see it is that you guys are actually both on the same page....

 

[Valued]

The way I see it is that you guys are actually both on the same page....

It sounds like they are talking about the same thing in my mind too.

 

[MichaelD]

Well Nick taught me to use leverage to take more signals and not increase position size...

This is the correct way to use leverage when trading multiple instruments (eg shares) - this allows you to smooth out your equity curve.

Why wouldn't you increase position size if risk remained the same.
In doing so allowing you to have another position.

The only way to do this would be to tighten your stop(s) at the same time. Otherwise by definition you are increasing your *overall portfolio* exposure to risk.

 

[tech/a]

This is the correct way to use leverage when trading multiple instruments (eg shares) - this allows you to smooth out your equity curve.



The only way to do this would be to tighten your stop(s) at the same time. Otherwise by definition you are increasing your *overall portfolio* exposure to risk.

How so.
The stop is in the same position as any trade taking on 2% risk (As the example in this case).
It is allowing you to take a trade that initially available capital would not allow.
Provided you don't open yourself to more risk the portfolio is at no increased risk.

I could have say 8 trades at $80K with 16% portfolio risk ($20K un leveraged capital available)
or 8 trades at $20K with the same 16% portfolio risk.($20K un leveraged capital available)
How is "A" more "riskier" than "B"?

It sounds like they are talking about the same thing in my mind too.

Highly likely.

 

[MichaelD]

I could have say 8 trades at $80K with 16% portfolio risk ($20K un leveraged capital available)
or 8 trades at $20K with the same 16% portfolio risk.($20K un leveraged capital available)
How is "A" more "riskier" than "B"?

Haven't we had this discussion in the past?

Your basic problem is that you CAN'T actually take the 8 trades with your $20K capital. You run out of cash.
That's why you need to use leverage to take the 8 positions.

As soon as you take on the EXTRA trades which were previously IMPOSSIBLE to take, your risk increases.

i.e.
Trading 20K cash as 80K leveraged = 16% portfolio risk as you can take all 8 positions.
Trading 20K cash unleveraged = more like 4%-6% portfolio risk as you can only take about 2-3 positions.

 

[tech/a]

Haven't we had this discussion in the past?

Your basic problem is that you CAN'T actually take the 8 trades with your $20K capital. You run out of cash.
That's why you need to use leverage to take the 8 positions.

As soon as you take on the EXTRA trades which were previously IMPOSSIBLE to take, your risk increases.

i.e.
Trading 20K cash as 80K leveraged = 16% portfolio risk as you can take all 8 positions.
Trading 20K cash unleveraged = more like 4%-6% portfolio risk as you can only take about 2-3 positions.

Probably
I'm not talking about the same trades.
I could take 8 trades with only 20 k
I could also take 8 trades with 80k leveraged.
If I take both cases with both having 16 % in total risk.
There is no greater risk.

Won't be the SAME trades only the SAME risk.

 

[rnr]

In responding to the OP's question we should be discussing risk per trade when using leverage.

As long as the maximum quantity of shares to be purchased is calculated using only the investors equity then the risk per trade will not increase by introducing leverage.

The OP's suggestion that equity ($100k) + leverage ($400k) be used to buy as many shares as possible for $26 will result in an additional 15384 shares being purchased.
A fall of $6.50 per share will wipe out the equity.

N.B.
No allowance for interest or brokerage.

 

[MichaelD]

Won't be the SAME trades only the SAME risk.

OK, fair enough. I see where you're coming from now that you've cleared up that point.