Module 2.1｜Leverage Basics

Beginner’s Guide: What is Leverage in Finance?

Leverage is a financial tool that allows you to amplify your potential returns—or losses—by using borrowed funds or assets. Think of it as using a lever to lift something heavier than you could on your own. While leverage can maximize profitability, it also comes with risks that need to be managed carefully.

Daily Life Example of Leverage

Imagine you want to buy a house worth $500,000, but you only have $100,000 saved up. To buy the house, you take out a mortgage (loan) for the remaining $400,000. This is leverage—you’re using borrowed money to own an asset worth more than what you could afford outright.

Scenario	House Value	Equity (Ownership)	Change in Equity
Initial Purchase	$500,000	$100,000	-
House Value Increases	$600,000	$200,000	+$100,000 (+100%)
House Value Decreases	$400,000	$0	-$100,000 (-100%)

What Happens in This Example?

• If the House Increases in Value: Let’s say the house’s value rises to $600,000. Your equity (your ownership) grows from $100,000 to $200,000—a 100% increase on your original $100,000 investment.

• If the House Decreases in Value: If the house’s value falls to $400,000, your equity drops to $0, as the entire $400,000 loan would still need to be repaid.

Leverage in Finance

In financial markets, leverage allows investors to control larger positions with less capital by borrowing funds. This is common in stock trading, cryptocurrency, and yield farming.

• Leverage Ratio: The multiplier effect of leverage. For example:

  • A 5x leverage ratio means you control $5 for every $1 invested.

  • A 10x leverage ratio means you control $10 for every $1 invested.

• Benefits:

  • Amplified returns with a smaller initial investment.

• Risks:

  • Magnified losses if the market moves against your position.

  • Potential liquidation if collateral value drops below a certain threshold.

Example of Leverage with NX Finance

NX Finance allows users to utilize leverage through its Fulcrum Strategy. Let’s break down an example:

Scenario:

• You deposit $1,000 and use 3x leverage.

• The platform borrows an additional $2,000 on your behalf.

• Your total investment becomes $3,000.

• The APR of the interest-bearing asset is 50%.

• Borrowing APR is 20%.

Step-by-Step Breakdown

Component	Amount ($)
Initial Deposit	1,000
Borrowed Funds	2,000
Total Investment	3,000
Yield from Investment	1,500
Borrowing Cost	−400
Net Profit	1,100

Without leveraging:

• Yield from a direct deposit of $1,000 at the same APR:

$$1,000\times50\%=500\text{ USD annually}$$

By leveraging at 3x:

• You’ve increased your net profit from $500 to $1,100 — more than double.