A margin account lets an investor borrow money to use for trading.
You have $100,000 in an account but want to buy $150,000 worth of shares in Better Win Inc. You can use margin to make up the additional $50,000.
Margin works like a loan. You pay interest on the amount you borrow. The stock purchased in the transaction becomes the collateral. If needed, your brokerage firm (the party loaning you the margin money) will make a margin call...they'll force you to sell the stock in order to pay back the loan if the transaction starts to go bad.
There are rules controlling margin transactions. Maintenance margin represents one of those guidelines. The Federal Reserve, one of the key U.S. financial regulators, has what's called Regulation T, dictating the requirements related to margin transactions.
The maintenance margin part states that you have to hold a minimum amount in an account involved in margin trading. The Fed requires 25%, but individual companies might set their barrier above that level.
The situation comes into play if the stock you purchase goes down in value. You buy $150,000 worth of Better Win Inc. at $15 a share (meaning you buy 10,000 shares). Pretty soon it falls to $10...your holdings drop from $150,000 to $100,000. Remember: you borrowed $50,000 to make the purchase. Your equity in the holdings is now just 50%. You hold $50,000 worth, and $50,000 worth is earmarked for a potential margin call. The stock falls again, this time to $6.60. Your holdings are now worth $66,000. You owe $50,000 and have $16,000 in equity; your equity represents about 24% of the total value of the holdings in your account, below the 25% barrier. Your broker makes a margin call. They liquidate your stock, take their $50,000 (plus whatever interest you owe) and leave you whatever little is left.
So. Much. Winning.
Related or Semi-related Video
Finance: What is Compounding Value or Co...1771 Views
Finance allah shmoop What is calm Pounding value or compounding
interest Ah the power of compounding it makes tree's stronger
pollution More feral and the rich Well richer How so
Well let's start with compounds kissing cousin with six toes
Arithmetic calm pounding Right So the first was really geometric
compounding Now we're talking about arithmetic compounding If you invest
a thousand bucks in a ten year bond that pay
six percent a year in interest the dough comes back
to you in a pattern that looks like this Like
every six months they pay thirty bucks and it's sixty
dollars a year Got it nice You get the total
of sixteen hundred bucks back from your investment And the
cash that came back to you you know came in
small parts all along the way until you got about
two thirds of it or sixty percent at the end
right If you just spent that money and collected your
thousand bucks at the end That's it Okay So that's
arithmetic compounding the money comes to you You don't reinvest
it Ding ding ding that's the key here and you
just go buy burgers Okay So now let's look at
what six percent compound id looks like over the same
ten year period Wealth at the end of your one
it's a thousand sixty bucks and no we're only going
to compound it annually We probably should do the semi
annually but we confuse you even more is we won't
do that but then you essentially re invest that money
and you get another six percent compounded on that thousand
sixty instead of six percent compounded against the original thousand
so by the end of your two you'll have a
thousand one hundred twenty three sixty and by the end
of your ten you'll have one thousand seven hundred ninety
dollars and eighty five cents So why do you make
so much more money when you compound interest versus getting
thirty bucks twice a year like you would in this
bond example going by and burgers with it You don't
wanna do that well essentially what's happening is that you're
delaying your gratification of getting that sweet sweet cash or
getting liquid Whatever you wanna call it by reinvesting your
gains year after year after year So do you have
that sort of self control Do you need the cash
Yeah that's The question If you for example have trouble
making it home from your local pizza spot with the
pie intact well and compound interest Keeping the discipline to
not spend the money today and wait for the happiness
tomorrow Well when that may not be for you Sorry
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