What is margin trading how does it work and what are some of the benefits and risks over the next few minutes?
we'll take away some of the mystery of margin trading and help you decide whether it's a strategy that can help you achieve your
investment goals
Margin trading is a form of borrowing that lets you leverage securities you already own to purchase additional securities protect your account from
overdraft or access a convenient line of credit
Margin, trading is not designed for any specific type of customer it may be right for any investor looking for additional leverage in their investment
Here's an example of how it works
Assume you want to buy 1,000 shares of QRS stock at $10 per share but only have $5,000 in vegetable cash available
with a margin account you can use your
$5,000 in cash and borrow the other 5,000 on margin to make your purchase
Without margin with what's called a cash account you would need the full ten thousand dollars in cash to make this stock purchase
Now let's see how a margin loan could impact your investment return assume the QRS stock rises in value from
$10,000 to $11,000 and you sell it you would pay back the $5,000 margin loan and realize a profit of
$1,000 that's a 20% return on your $5,000 investment without a margin loan you would have invested
$10,000 in cash and realized only a 10 percent return
While leverage is a powerful tool when the price of the security moves in your favor
It is also important to recognize the downside of the stock price false
Let's look at the flip side of the same example
assume the market value of the QRS stock you purchased with margin for $10,000 falls to
$9,000 your equity, which is the value of your position minus the loan balance of
$5,000 would fall to
$4,000 that's a 20% loss from a 10 percent decrease in market value
Just like any loan you will also incur interest charges that begin accruing on the date your trade settles
The rate you pay depends on your outstanding margin balance known as the margin debit balance
The rate is typically calculated using a tiered schedule meaning the higher your debit balance the lower the rate. You are charged
You should also know that margin loans have no set repayment schedule as long as you maintain the required level of equity in your account
Let's shift focus to this equity requirement along with some other important requirements for margin accounts
In order to buy securities on margin you must also deposit enough cash or eligible securities to meet the initial margin requirement
for your purchase
Typically this is fifty percent which is a requirement set by the Federal Reserve Board
Once you've started buying stock on margin you're required to maintain a certain level of equity in your margin account
This requirement varies based on the type of security
for example a stock generally has a maintenance requirement of twenty five percent and is set by the New York Stock Exchange and FINRA a
Brokerage firm may impose a higher requirement due to factors including
But not limited to holding a significant portion of your account and a single security, which is known as a concentrated position
The security you are investing in must be eligible for margin in the first place and not all securities are eligible for
Example while most stocks and fixed income securities such as Treasuries are eligible CDs and money markets are not
you can find out whether security is eligible as well as the specific margin requirements for each type of security at fidelity comm
margin
Now we'll put this information together and see how it all works
Let's say you have
$50,000 in cash and wish to purchase XYZ stock, which has a 50% initial margin requirement
You can purchase up to
$100,000 worth of that stock using your margin buying power after the
$100,000 stock purchase is made and assuming the stock has a 30% margin requirement
You would have what's called an initial house surplus more equity. Than is required of
$20,000
How surplus is affected at a rate of 70%
So your position could sustain a loss in value of twenty eight?
Thousand five hundred and seventy one dollars and forty three cents before going into what's referred to as a margin
call a
margin
Call occurs when the margin equity falls below the required amount due to either changes in the market value or because you purchased additional
Securities on margin this means you will need to increase the equity in your account by adding cash
liquidating securities or through market appreciation if
Your equity does not rise to the minimum required amount by the due date of the margin call the brokerage firm can sell
Securities you own to increase the equity in your account you
Will find more details on the different types of margin calls, and how each one should be handled at Fidelity comm margin as well
Here's the bottom line
Margin accounts provide a great opportunity for you to leverage your investments to help increase your return
The information we covered will help you understand and weigh the benefits and risks of trading in a margin account
Now that we've answered some of your questions visit the fidelity Learning Center to learn more
