What is Margin Against Shares?
Margin Against Shares is when you use the shares you have in your account as collateral to borrow funds from the brokerage. Your broker holds your shares as collateral against credit risk.
For example, say you want to buy 500 shares of a company –XYZ at Rs. 1000 each, However, you don’t have the required funds. However, you have shares of another company ABC worth Rs. 50,000 in your account. You can then borrow the Rs 5,00,000 from your broker by using the shares worth Rs 50,000 in your account as collateral.
The broker also charges interest that is calculated on the basis of the loan given to you. This process of using your shares as collateral is called pledging.
Calculation of margin:
The margin you receive after pledging your shares is calculated after reducing a certain percentage of the value of shares you have in your account. This is done to protect the broker from risks such as a decline in share price used as collateral. This is known as a haircut.
For instance, the value of the shares of ABC in your account is Rs. 50,000 on the day you decide to borrow margin money. However, while calculating this margin, the broker will reduce a certain percentage from ABC’s current market price. For example, if they reduce 20%, you will receive a margin on Rs. 40,000 worth of ABC’s shares.
Click here to listen to a podcast on the difference between cash and margin
Margin against shares will provide you with greater amount of funds and help you earn higher profits, but it can also be quite risky. You can only gain when the total profit earned is higher than the margin. You will also have to pay interest on the loan provided, till it remains outstanding. If the value of shares you trade does not appreciate, you might suffer further loss even after paying the interest. When you pledge your shares, brokers have the right to liquidate them if the value of your shares fall. So, it is best to engage in margin trading when you are sure that you will make profits.
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