Borrowed money, multiplied outcomes

Leverage is using borrowed money to hold a larger position than your own capital would allow. In Indian retail investing it arrives in two common forms: a broker’s MTF — Margin Trading Facility, where you pay part of a stock purchase and the broker lends the rest against the shares; and futures, where a small margin deposit controls a much larger notional contract — the mechanism the F&O post touched on.

Both do exactly one thing to your returns: multiply them. In both directions. That symmetry is the whole subject, and the reason this post is mostly tables.

Every number here is a round illustration, not a real quote. Actual margin requirements, interest rates and contract sizes change; the arithmetic doesn’t.

The formula

Leverage (x)  =  Position value  /  Your own capital

Return on your capital  =  Leverage × Price move  −  Cost of borrowing

Cost of borrowing  =  (Leverage − 1) × Interest rate × Time   (as a % of your capital)

Move that wipes out your capital  =  −(1 / Leverage)     (before costs)

The last line is the one to memorise. At 2× leverage, a 50% fall takes everything. At 5×, 20%. At 10×, a 10% fall — one bad week for a single stock — leaves you with nothing. Losses beyond that point are still owed.

Table one: the multiplier

Return on your own capital for a given price move, before any interest or fees:

Price move Unlevered (1×) 2× 5× 10×
−2% −2% −4% −10% −20%
−5% −5% −10% −25% −50%
−10% −10% −20% −50% −100%
−15% −15% −30% −75% −100%
−20% −20% −40% −100% −100%
−25% −25% −50% −100% −100%

Read down the 10× column. Nothing exotic happens to the price — a 10% move is well inside the normal range for a stock over a few weeks, and the position sizing post showed Britannia alone moving about 2% on an ordinary day. What’s exotic is what the multiplier does to it.

The −100% entries are capped in the table. In practice a broker doesn’t wait for that: when the position’s value falls toward the borrowed amount, you get a margin call — top up cash, or the broker sells the position to protect the loan. That sale happens at the worst possible moment by construction: after a fall, at the low, with no say in the timing.

🧒 Explain it like I'm 10 (optional — skip if this is already clear)

You have ₹100 and want to buy a toy that costs ₹1,000, so a friend lends you ₹900. Tomorrow you sell the toy.

If it sells for ₹1,100, you pay back ₹900 and keep ₹200 — you doubled your money on a 10% price rise. Brilliant.

If it sells for ₹900, you pay back ₹900 and keep nothing. Your ₹100 is gone on a 10% price fall. And if it sells for ₹850, you still owe ₹50.

The toy moved 10% either way. Your money moved 100%. That’s leverage.

Table two: the interest bill

Borrowed money isn’t free, and the cost is the part that turns a symmetric multiplier into a tilted one. Take an MTF position: ₹1,00,000 of your own money, ₹1,00,000 borrowed at an illustrative 12% a year, held for 6 months.

 
Position ₹2,00,000
Leverage 2×
Interest for 6 months ₹6,000
Price rise needed just to break even 3.0%

Now run the scenarios:

Price move over 6 months Unlevered return Profit or loss on the MTF position Return on your ₹1,00,000
10% 10.0% ₹14,000 14.0%
5% 5.0% ₹4,000 4.0%
0% 0.0% −₹6,000 −6.0%
−5% −5.0% −₹16,000 −16.0%
−10% −10.0% −₹26,000 −26.0%
−20% −20.0% −₹46,000 −46.0%

Three things in that table are worth sitting with.

A flat market loses you 6%. The stock does nothing, and you’re down the interest.

A 5% rise earns you less than owning the stock outright. 4% levered against 5% unlevered — the multiplier doubled the gain and the interest ate more than the doubling added. Leverage only helps if the move is bigger than the borrowing cost, in the time you have.

The losses aren’t doubled — they’re doubled and then the interest is added. A 10% fall costs 26% of your capital, not 20%. At this rate and holding period, a fall of about 47% would take the entire ₹1,00,000.

Futures: the same thing with a smaller deposit

Futures margins are set by the exchange from the underlying’s volatility, so they vary by contract and by day. Index futures have typically asked for somewhere in the low-to-mid teens as a percentage of the contract’s value; single-stock futures usually ask for more — check NSE’s published margin files for current figures. Take 12% as an illustrative index-futures number. That’s roughly 8× leverage on the margin you put down.

Which means the wipeout line from the formula sits at about −12%. The F&O post’s worked example showed the upside version — a 1% index move returning 8.3% on margin. This is its mirror: the same contract, the index falls 12% over a few weeks, and the margin is gone. Not “down a lot.” Gone, with a demand for more (a mark-to-market call, settled daily) along the way.

There’s no interest bill on a future in the MTF sense, but there is an equivalent: the futures price normally sits above the spot price by roughly the cost of carry, and that premium decays toward zero at expiry. If you’re long, you pay for the leverage either way; it’s just less visible.

What leverage is actually for

Being fair: leverage isn’t a scam. Companies use it (the entire debt-to-equity discussion is about leverage at the corporate level), home buyers use it, and hedgers use futures to reduce risk by offsetting a position they already hold. The problem isn’t the tool. It’s that the tool’s cost is quiet and its downside is loud, and most people who reach for it are looking at the left half of table one.

The arithmetic of losses is what makes it so unforgiving. A leveraged account that drops 50% needs 100% to recover — on an account that now has less margin capacity, paying the same interest. Leverage makes every drawdown deeper and every recovery steeper, at the same time.

Common mistakes

  • Thinking of leverage as “a bigger position.” It’s a bigger position and a loan. The loan has a cost and a lender who can call it.
  • Ignoring the interest because it’s quoted per year. 12% a year on a position held six months is 3% of the position you have to earn before you’ve made anything.
  • Comparing the levered return to zero instead of to the unlevered one. The honest question is whether borrowing beat simply owning. In the 5% scenario above it didn’t.
  • Assuming you’ll get out before the margin call. The call is triggered by the price, not by your plan, and it forces a sale at the low.
  • Sizing the position by the margin instead of by the notional. A ₹2 lakh margin controlling a ₹18 lakh contract is an ₹18 lakh risk. Apply the 1% rule from the last post to the full notional: the loss to your stop is lot size × stop distance, not a slice of the margin. That usually means the position you can “afford” on margin is far larger than the one you can afford to lose on.
  • Adding leverage to recover a loss. This is the recovery table’s worst case: the hole is deeper, the multiplier is larger, and the wipeout line is closer.

Sources

Takeaway: Leverage multiplies both directions by the same number and then charges you for the privilege — at 2× a flat market costs you the interest, a 5% rise can earn less than owning outright, and at 10× an ordinary 10% fall is the whole account. The wipeout move is just 1 ÷ leverage. Work that number out before the position, not after the margin call.