Buying on Margin

Posted on by user

Buying on Margin: How It Works, Risks, and Rewards

What is buying on margin?

Buying on margin means purchasing securities using borrowed money from a broker. The investor provides an initial payment (the margin) and borrows the remainder, using the securities in the brokerage account as collateral. Margin amplifies both gains and losses and also exposes the investor to interest charges and potential liquidation by the broker.

Key points
* Margin is leverage: you invest with borrowed funds.
* Gains and losses are magnified.
* If account equity falls below the broker’s maintenance requirement, the broker can issue a margin call or liquidate holdings.

How margin works

  • Regulation T sets a common initial requirement: investors must typically fund at least 50% of a purchase with cash or collateral; the broker may finance the rest. Brokers may require more for certain customers or securities.
  • Interest is charged on the borrowed amount and is debited from the brokerage account. Rates vary by broker and loan size.
  • Brokers set both an initial margin (to open positions) and a maintenance margin (minimum equity to keep positions open). Falling below maintenance triggers a margin call requiring cash or sale of securities.

Example

Purchase 100 shares at $100 = $10,000 total
* Investor puts up $5,000 and borrows $5,000.
* If the price rises to $200, sale proceeds = $20,000. After repaying the $5,000 loan, the investor’s equity is $15,000 — a tripling of the original $5,000 equity (net gain $10,000).
* If the price falls to $50, sale proceeds = $5,000. After repaying the $5,000 loan, the investor’s equity is $0 — a 100% loss of the original $5,000.

How to buy on margin

  1. Open a margin account with a broker (approval depends on experience, credit, and financial strength).
  2. Meet the broker’s initial margin requirement to place trades.
  3. Monitor account equity relative to the maintenance margin.
  4. If a margin call occurs, meet it by depositing cash or selling securities; otherwise the broker may liquidate positions.

Who should use margin?

  • Margin is generally not suitable for beginners or investors with low risk tolerance.
  • It can be appropriate for experienced traders who actively monitor positions and understand leverage, interest costs, and liquidation risk.
  • Some markets (for example, futures) commonly use margin as part of standard trading. Certain long-term options may also be eligible for margin under specific rules.

Advantages

  • Increased buying power: allows larger positions with less upfront capital.
  • Avoids forced liquidation of existing holdings—securities in the account can serve as collateral instead of selling them (which could create taxable events).

Disadvantages and risks

  • Amplified losses: you can lose more than your initial equity and may owe additional funds.
  • Margin interest: borrowing costs reduce net returns, and prolonged positions can be expensive.
  • Margin calls and forced liquidation: brokers can sell assets without consent to restore required equity.
  • Market risk: in sharply falling markets, margin positions can accelerate losses and trigger rapid liquidations.

Historical note

Excessive margin use was a key factor in speculative bubbles before the 1929 crash: widespread borrowing to buy stocks amplified price rises and, when prices fell, left many unable to repay loans.

Practical takeaways

  • Understand your broker’s initial and maintenance margin requirements and margin-interest rates.
  • Only use margin if you have a clear strategy, sufficient risk tolerance, and the ability to meet margin calls.
  • Regularly monitor positions and consider stop-loss strategies or position limits to manage the elevated risk.

Sources

Financial Industry Regulatory Authority (FINRA); Cboe; major broker margin-rate disclosures.