Morningstar Education
Investment Trusts Solutions
How to Assess Gearing
Slide 2: How to Assess Gearing

Investment companies can borrow money to invest on behalf of their shareholders - this is called gearing. Investment managers use it to take advantage of their current views on the market and it means they aren't forced to sell stocks to make these additional investments. A manager should only borrow funds if they're confident in making a higher return through investing that cash than the interest payments that need to be paid to facilitate that loan.

Slide 3: How to Assess Gearing

Gearing can magnify shareholder gains but also magnify losses too. Companies will quote net and gross figures for their gearing ratios and it's important to understand the difference. The net gearing figure offsets any cash held by the fund against any borrowings to better reflect its true market exposure.

Slide 4: How to Assess Gearing

Gearing will also be affected by movements in interest rates, particularly if the debt is long-dated. The penalty costs for repaying that debt early may be highly onerous and would therefore negatively impact the fund's NAV. So it's important to assess the debt structure in full, and its inherent risks, when looking at funds that use gearing.

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