Bueno Bytes #5: Let’s Talk About “Leverage”

Today’s Byte breaks down the importance of leverage. Funny thing though, most people learn about investing by learning about “risk”.

But what is the underlying reason for understanding risk?

Well, a lender looks at risk to determine what could happen in the event the borrower defaults on the loan. Will they have an automatic acceleration? Do they have to file a lawsuit to enforce the default? Do they have to provide notice in order to enforce?

The Lender needs to understand their risk tolerance to a particular asset or asset class, to determine whether a loan is worth funding. Especially when the asset could be the only remedy the lender has in the event of a default.

Whereas, a Borrower is looking at risk from the perspective that upon closing (assuming a fixed interest term loan) they will owe money to the lender each month, so they must be prepared to make payments in accordance with the agreement.

The borrower will also look to the rules behind a default, as this describes what will happen to their underlying assets upon default. Is there a cure period? Is there an automatic conversion of funds to the lender?

Both parties to a loan need to understand “risk” and “value”, so they can evaluate the assets being used as collateral to determine whether the loan is worth participating in.

What is a story about how you learned to leverage?

#lending #loans #leverage #risk