Hi, I’m Rose Jacobs, here with you for Kalkine TV. Today we’re going to look at what is Margin Stock?
But first, make sure you press the bell icon for all the latest updates here on Kalkine TV. Margin
stock is collateral used to cover the credit risk of an investor. Part of stocks held that investors
deposit with a broker or an exchange as protection from the risk they pose to the broker or the
exchange. The risk is higher in short selling or derivatives trading,; it is then that margin
stocks provide coverage. Margin stock is generally used when the broker makes initial payment;
the marginal securities in investor’s brokerage account act as collateral. Using margin stock,
investors qualify for borrowing funds to buy more stock to increase their returns.
It is called margin trading. The stock margin requirements are often specified
by a stock exchange for all participants dealing in securities over its platform.
What is margin trading? In a case where many traders seek to buy one stock, they either
deposit required cash into a brokerage account or save up the returns on existing investments.
Another handy way is to borrow money from one's broker against the stocks already in
the investor's account. This is known as margin trading. In it,
the broker lends money to investors at relatively low rates. The money received
gives investors instant and extra buying power for eligible securities. In margin trading,
the investor’s trading account and all assets held serve as collateral for the borrowed money.
In such cases, the broker doesn't share any of the risks. Instead, the brokerage lends funds for
buying stocks. Thus, regardless of how securities perform, the investor will need to repay the loan.
Often a separate account for margin trading, called 'margin account', is set up. It is
distinct from a 'cash account' and is a standard account most investors open for trading purposes.
All shares, bonds and other securities held in a margin account act as collateral for
the margin loan. If an investor fails to repay the margin by depositing additional assets, the
broker may sell off existing investments. Margin stock maintenance requirements are determined
by the stock exchange and may vary on all platforms. Essentially it is a ratio between
holdings and the amount investors owe. In simple terms, it is just how much one borrows against
investments held. Interest rate broker charges on margin loans are subject to change as well.
When brokers call for the lent money, it is called a margin call. How are margins calculated? For
trading on margins, it is important to understand how margins are calculated.
A margin is a difference between the market value of stock and loan amount. To compute the margin
required to go long on stocks, one can multiply the number of shares by the price and a margin
rate. Similarly, a short sale margin requirement plus 100% of the security value may be taken.
Margins thus can escalate investors profits on the upside and magnify losses on the downside.
If a stock plummets severely, investors can end up with a margin loan exceeding the market value of
stock used to loan the trade. What are the pros and cons of using margin stock? Pros include
Using margin stock enhances an investors' purchasing power. With margin trading, investors
can buy more than their cash account limits. If there's an investment the investor is pursuing,
their ability to invest in it increases significantly more. Also, it can realise
higher returns by investing using the enhanced funding capacity. The more stock an investor
can buy, the higher their earning potential is. It means that using margin stock well amplifies
an investor's returns. And the Cons? Using margin stock for trading magnifies the risk of losses.
Investing using borrowed funds has a growing effect if an investment loses value. Furthermore,
failure to cover losses from margin trading can cause bankruptcy too. Though it is much easier to
borrow funds using margin stock as collateral, the risk and reward on investment both get magnified.
Also, Investors who use their margin stock for trading are expected to maintain a minimum balance
in the margin trading account at all times. If the balance falls below the minimum balance,
a broker will intimate the investor to fulfil it. If investors cannot maintain the minimum balance,
they would be forced to sell existing assets to maintain the minimum balance.
And that’s it for today. If you like what you’ve learned then don’t forget to like, share and
subscribe and go to kalkinemedia.com for all our latest. I’m Rose Jacobs, see you next time!