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leverage

Page history last edited by PBworks 11 years, 7 months ago

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There are two important types of leverage to consider

 

1.  financial leverage - amount of debt that the firm must first pay back before there is any money left over for the  shareholders (debt vs. equity analysis)

2.  operating leverage - amount of fixed costs that the firm must cover in order to start making a profit (fixed costs vs. variable costs analysis). 

 

Both of these factors are related to the risk of a firm, and have the potential to magnify potential returns for good performance, and punish the firm for poor performance.

 

 

Deleveraging

 

In early 2008, there was talk about "deleveraging"  of the financial markets (and how that was going to cause a recession).  But what is "deleveraging"  exactly?  and what is causing it?  According to Jan Hatzius, chief US economist at Goldman Sachs, major banks and brokers would suffer about $200bn (£99bn, €127bn) in subprime-linked losses in early 2008. But, due to deleveraging,  the impact of these losses on bank lending could be much greater.  Mr Hatzius suspected that a $200bn subprime loss would cut bank capital by 12 per cent; if banks then shrank their balance sheets by 12 per cent, the implied reduction in overall lending - due to leverage - would total $2,300bn.

 

Lending is based on "leverage".  If a bank looses a certain amount of assets (x), then they must reduce lending by some multiple of (x).  

 

this led to fears of a Possible recession in 2008, and a near collapse of the global financial system due to the credit crisis of 2007

 

Links from KookyPlan:

 

see also  deleverage ,  Possible recession in 2008,    credit crisis of 2007,  margin call ,  Private equity

 

 

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