Question

The use of personal borrowing to change the overall amount of financial leverage to which an individual is exposed is called:____.

Answer 1

When the person uses his personal belongings to change the overall amount of his financial leverage then it will be called Homemade Leverage.

Homemade Leverage was provided by The Modigliani-Miller Theory. This theory assumes an efficient market and it also assumes the absence of corporate taxes and the cost of bankruptcy. Homemade leverage gives the power for investors to borrow on the same terms as the company. So in this way, it can create the effects of corporate leverage.

The advantage of this method is that we can use it to incorporate the cash flows that come from risk-free assets without relying on the findings of the fund manager. This allows us to borrow and also lend at a specific risk-free rate of interest and to build a leveraged accurate return for the company.

Learn more about Homemade Leverage here:

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