The Danger of Leverage and Volatility
24 Pages Posted: 27 Mar 2013
Date Written: October 31, 1993
High expected returns are attractive but are associated with high risk. Ultimately, risk shows up as volatility. Volatility is a fundamental feature of a business but can be increased through firm or investor leverage. Volatility without leverage significantly reduces long term return. Leverage and volatility combined can turn moderately poor returns into disasters and reduce long term return far more than is generally appreciated. Many investments with high expected returns have disappointing long term returns or appreciable chances of disaster.
Keywords: leverage, volatility, long-term return risk
JEL Classification: G11
Suggested Citation: Suggested Citation