Margin trading: An overview
When you buy shares on a margin, it means that you have bought them with money borrowed from your broker. You use the securities in your account as collateral, to cover any associated credit risk. Click here to watch a video on margin trading .
Margin money is treated as a loan on which you have to pay interest at periodic intervals. For instance, say you want to buy 1,000 shares of a company at Rs 500 per share. However, you possess a limited sum of Rs. 1,00,000. You can pay the broker this sum of money as initial investment. The broker will then fund the remaining amount of Rs 4,00,000. You get a year to repay this amount to the broker. You also need to pledge your existing shares with the brokerage as collateral and pay an interest rate on Rs.4,00,000.
Minimum account balance:
You need to maintain a minimum balance in your account with the broker. If you don’t do this, your broker might advise you to do so or sell your stock . This is called a margin call. If you do not respond to your margin call, your broker might close any positions you have without your approval to maintain this minimum balance. Your broker can also charge you a commission on these transactions.
To receive Rs.4,00,000 needed to buy 1000 shares, the minimum balance in your account was Rs. 1,00,000. This will be in the form of shares. If the value of the shares available in the account falls to Rs 95,000, the broker will then advise you to deposit Rs.5,000 to maintain the minimum balance. In the event that you cannot do this, you will have to sell your stocks till the value of the account touches Rs.1,00,000.
Additional read: Click here to watch a video on the details of Margin trading
While the idea of boosting your investment capacity with the help of funds acquired by the margin trading route might be tempting, there are also several risks associated with this. Purchasing several stocks magnifies the risk of losses, but the greatest risk is the margin call. You might have to sell your shares at prices that are unfavourable in order to maintain the minimum balance in your account. Also, paying interest in these circumstances would be an additional worry.
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