Margin Account

Definition

A margin account is a brokerage account that lets investors borrow money from their broker to buy securities (leverage) or to sell short. Borrowing increases purchasing power but also magnifies gains and losses.

Key points

• Margin enables larger positions than cash-only accounts by borrowing against the account’s holdings.
• Regulation T typically limits initial stock purchases to 50% borrowed funds (i.e., 50% initial margin).
• Brokers charge interest on margin loans (calculated daily, billed monthly). Typical retail rates often range from roughly 5% to 12% annually, depending on loan size and brokerage.
• If account equity falls below a broker’s maintenance requirement, the broker may issue a margin call and can liquidate positions if the call is not met.
• Pattern day traders executing four or more day trades in five business days with under $25,000 in the account face additional restrictions.
• Traditional and Roth IRAs generally cannot be used for margin trading.

How margin works

Leverage and purchasing power
* With a 50% initial margin, $10,000 in cash can buy $20,000 of qualifying stock. A 10% move in the stock produces a 20% effect on the investor’s equity.
* Leverage magnifies returns and losses in proportion to the borrowed amount.

Interest and costs
* Margin loans accrue interest daily; brokerages vary rates by balance and add a spread to a base lending rate.
* Interest is a recurring cost that reduces net returns, particularly if the market is range-bound.

Opening a margin account
* U.S. firms generally require a minimum initial deposit (commonly $2,000) and a signed margin agreement. Broker-specific credit and suitability checks may apply.
* Pattern day traders must maintain at least $25,000 in equity.

Margin requirements and margin calls

• Initial margin: the percentage of a purchase the investor must provide at trade initiation (commonly 50% under Regulation T for stocks).
• Maintenance margin: the minimum equity percentage to keep positions open (often 25%–40%, but broker-specific).
• Margin call: issued when equity falls below the maintenance requirement; the investor must deposit funds or liquidate positions within the broker’s timeframe (often 2–5 business days, sometimes less in volatile markets).
• Forced liquidation: if the account holder fails to meet a margin call, the broker can sell securities without prior consent to restore required equity.

Additional risks and considerations

• Rising interest rates increase the cost of carrying margin positions and can erode returns.
• Leverage increases psychological pressure and can lead to rushed or poor decisions in volatile markets.
• Margin interest and potential forced sales can produce outcomes worse than unleveraged positions.
• Not all assets qualify for the same margin treatment; margin rules differ for stocks, options, futures, and forex.

Example

An investor has $30,000 cash and buys XYZ shares at $100 each.

Without margin:
* Can buy 300 shares ($30,000 ÷ $100).

With 50% margin:
* Can buy up to 600 shares ($60,000 total) by borrowing $30,000.

Scenario A — price rises to $120:
* Market value: 600 × $120 = $72,000
* Gain: $12,000
* Account equity after repaying the $30,000 loan (ignoring interest): $42,000
* Return on initial $30,000: 40%

Scenario B — price falls to $80:
* Market value: 600 × $80 = $48,000
* Loss: $12,000
* Account equity: $18,000
* Loss on initial $30,000: 40%

Margin call threshold (illustrative):
* If a broker requires a 25% maintenance margin, a margin call occurs when account equity is less than 25% of holdings’ market value. In this example, that trigger corresponds to a share price of about $66.67.

Note: These figures ignore margin interest, taxes, and commissions; including interest will worsen net returns in leveraged scenarios.

Bottom line

Margin accounts can boost buying power and enable strategies like short selling, but they increase risk. Investors should understand how initial and maintenance margins, margin interest, margin calls, and forced liquidation work before using leverage. Effective margin use requires careful monitoring of positions, awareness of interest costs, and readiness to meet margin calls or reduce exposure.