Margin trading allows investors to increase their purchasing power by trading stocks and other securities. Margin trading is the process of borrowing money from a brokerage firm in order to buy stocks. The amount owed to the brokerage by an investor is known as the margin balance. A margin debit balance occurs when an investor uses the brokerage’s funds to purchase securities.
A margin balance is a line of credit that the borrower must repay with interest, similar to a credit card or traditional loan. Margin trading involves having an outstanding margin balance, but investors should be aware of the consequences of owing money to a brokerage and what can happen if you’re subject to a margin call.
What Is Margin Balance?
In a margin trading account, the margin balance is the amount of money owed to the brokerage at any particular time. When a margin account is opened, the investor must make an initial deposit known as the “minimum margin.” A minimum margin of $2,000 is required by the Financial Industry Regulatory Authority (FINRA), while some brokerages may ask a greater minimum.
Investors can trade utilizing an initial margin after depositing funds into their brokerage account. When trading on margin, investors can borrow up to 50% of the buying price of shares under Federal Reserve Board Regulation T. A margin trader, for example, could buy $10,000 worth of stocks with their own money and another $10,000 with the brokerage’s money. The investor’s margin balance is represented by the $10,000 borrowed from the brokerage.
In a margin account, you can trade a range of securities, including stocks and derivatives like options and futures. For margin balance forex, the rules are slightly different. Margin is a term used in forex trading to describe the amount of money or security that an investor must deposit with a brokerage in order to begin trading. This is usually set as a percentage of the trading order by the brokerage.
How Margin Balance Works
Investors can borrow money and subsequently repay it to the brokerage with interest if they have a margin balance. The amount susceptible to interest charges is represented by a negative margin balance, often known as a margin debit balance. Depending on how much an investor owes, this amount is either a negative number or $0 at all times.
Margin balance loans, unlike other sorts of loans, do not have a predetermined repayment period. Using their brokerage account, investors can make payments toward the principle and interest at their leisure. They can also reduce their margin balance by depositing cash into their margin accounts or selling their leveraged securities.
Margin Calls
While paying off a negative margin amount has some flexibility, investors should be aware of their interest charges as well as the danger of being exposed to a margin call. Margin calls are simply a brokerage’s interim risk management tool. Investors must follow maintenance margin recommendations in addition to the minimum and initial margin requirements. This is the bare minimum of equity that an investor must maintain in their account. The maintenance requirement, according to FINRA guidelines, is at least 25% equity based on the value of the margin account.
Some brokerages may increase this to 30%, 40%, or even 50%. Assume that an investor deposits $10,000 of their own money and borrows $10,000 from their brokerage to invest in marginable securities, as in the prior example. Let’s imagine the investment doesn’t pan out and the stock price plummets. That $20,000 investment has now grown to $10,000. When the $10,000 margin debit balance is deducted, the net balance is $0, indicating that the trader has no equity and is not meeting the maintenance margin requirements.
The brokerage may issue a margin call at this stage, requiring the investor to deposit additional funds into their account in order to continue trading. If an investor is unable to meet the maintenance margin requirement with additional funds, the brokerage may sell securities from the account to reclaim the negative margin amount.
Negative Margin Balance
In a margin account, a negative margin balance represents the amount due to the brokerage. The margin debit balance may be presented in parenthesis or with a negative symbol in front of it, depending on the brokerage.
Example of a Margin Balance
When logging into their account, an investor with a negative margin amount of $12,225 might see one of the following:
• Margin balance: -$12,225
• Margin balance: ($12,22
Both indicate that the investor owes the brokerage $12,225 for trading on margin.
When a trader’s margin balance is positive, it signifies the trader has a margin credit balance rather than a margin debit balance. If an investor sells shares to clear their negative margin balance, but the settlement amount is greater than what they owe the brokerage, a credit balance can result.
How Is The Margin Balance Calculated?
Brokerages can lend money on margin to investors, but in exchange for this convenience, they can charge interest, or margin rates, to those investors. The amount you pay for those rates varies depending on the brokerage and the sort of securities you’re trading. Many brokerages utilize a benchmark rate, also known as a broker call rate or call money rate, and then scale that rate based on the size of the margin account.
Brokerages can use this as a starting point for adding or subtracting percentage points. The higher the margin rate discount, in general, the larger the margin account balance. Traders with lower margin balances, on the other hand, incur higher interest rates. As a result, an investor with less than $25,000 in their account may pay 7% to 8% in margin rates, whilst an investor with more than $1 million in their account may pay 4% to 5% in margin rates.
Margin interest is calculated on a daily basis by brokers and charged to an investor’s account monthly. Interest costs on a margin account can have a direct impact on the net return on an investment. Higher margin rates can raise the required rate of return to break even on an investment or profit on a stock.
Managing Your Margin Balance
Understanding the risks involved in managing a margin account and margin balances, including the possibility of a margin call, is the first step in managing a margin account and margin holdings. The value of your assets might affect your margin balance, and higher volatility could cause the value of margin securities to fall, putting you below the required maintenance margin. To keep trading, you’ll need to deposit additional money into your account.
Keeping cash reserve in your margin account will help you avoid margin calls. Alternatively, you might hold a money in a separate account that you could move to your margin account if increasing volatility threatens to depreciate the value of your margin assets. It’s also crucial to think about how much money you’re willing to owe your brokerage at any particular time. Setting a limit on your maximum margin can help you prevent going overboard. You can also keep your margin balances under control by making frequent cash payments or selling securities on a regular basis to lower the amount due. To avoid your balance from rising, one option is to pay enough each month to cover the interest.