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The Number One Thing To Avoid When Investing

Imagine for a moment that you have invested a sum of S$10,000 in Raffles Medical Group Ltd. (SGX: R01) since 2006 at a price of S$0.70 per share. The share price closed yesterday at S$3.90 per share. Your S$10,000 investment would be worth S$55,700 today.

Now imagine the same situation again but this time, you have decided to invest through a leveraged product to buy Raffles Medical Group. The leverage product allows you to leverage up to 10x your investment amount. So with your S$10,000, you can buy S$100,000 worth of Raffles Medical Group. With the current share price today, you would be holding on to S$557,000 worth of Raffles Medical Group shares. Even after the trading and financing cost, you should at least be sitting on a profit of S$400,000, an astonishing 7 times more than the amount you will earn if no leverage is used.

So, the morale of the story is, leverage is GREAT, right? WRONG!

In fact, if you have used leverage, you will most likely be sitting on debt now, even when investing in a company that has appreciated about 550% over the past 9 years. This is because the market fluctuates. Share prices move up and down and there is no way for us to know how the market would react in the short term. If you have invested in the company in 2006, it is highly unlikely that you would have seen the financial crisis coming in 2008. And during the global financial crisis, share price of Raffles Medical Group Ltd. fell to less than S$0.60 per share even when its fundamentals were relatively strong.

Here is the important part. As Raffles Medical’s share price fell below S$0.60 per share, if you have invested in the company through leverage, you would be completely wiped out and your broker would have force sell the position and left you with debt from the excess losses, interests, and transactional cost. So instead of sitting on S$400,000 worth of profit, you would be sitting on an ultra-high interest debt.

Foolish Summary

Here’s the true morale of the story, leverage kills. Smart investors know it is better to earn less than to not earn anything at all.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Stanley Lim does not own any companies mention above