Margin Borrowing

• Individual investors sometimes take out loans from their brokerage company. These loans are called "margin loans," secured by the securities -- stocks, mutual funds and bonds -- that the investor owns within her brokerage account. You can take out a margin loan for any purpose. Currently, regulators allow U.S. investors to borrow up to their account balances. If your securities in the investment account fall in price, however, you may get a "margin call" from the investment company. You will need to add money to your investment account, or pay back part of the loan within a few days.
  
  

Advantages and Disadvantages of Margin

• Margin borrowing can improve potential returns, but it also increases your risk, as well. For example, if you have an investment account worth $100,000 and it is earning 10 percent per year, you will have a 10 percent return at the end of the year. But if you take out a $100,000 margin loan on that account, and invest it in the same thing, you would double your return, minus the interest rate on the loan. Your $100,000, plus $100,000 in margin borrowing, would both earn 10 percent, totaling $20,000 in the year. Once you pay back the loan, you get to keep the $20,000, minus the interest rate on the loan. But if the account loses 10 percent per year, you must still pay back the loan, plus interest. You would have lost 20 percent, in this case, instead of 10 percent -- plus the interest rate on the loan.
  
  

Leveraged Companies

• Companies borrow money for the same reason individuals do -- to invest for an expected profit, or to finance current spending to be paid back from future revenues. Companies that have a large amount of debt on their books compared to assets, are known as "highly leveraged." In stable economic times, these companies often perform very well, because the projects they have invested their borrowed money in, often perform well too. However, when economic times are bad, these companies often run into trouble, and occasionally go bankrupt.
  
  

Identifying Leveraged Companies

• To find out if a company is highly leveraged, look at the company's financial statements. If a company has large amounts of money in "short-term debt" and "long-term debt," or has floated large amounts in bonds, compared to the overall size and market capitalization of the company, it is highly leveraged. Companies with no debt are not leveraged. It is important to compare corporate debt levels with other companies in similar industries, as some industries naturally function on larger amounts of debt than others. If a company has a lot of debt relative to other companies in the same industry, that could be a riskier investment than other alternatives.