Margin trading is when your broker adds buying power to your account to increase the size you can trade and the quantity of trades you can make. Margin can be used to add leverage to your trades or faster turnover on your trades without having to wait for them to clear after entering and exiting.
If margin is used to increase the size of your trades then your results are amplified. If you trade twice the size of the position you would have traded without margin, then your win is twice as big but also if it is a losing trade it would be twice as big of a loss.
Using margin to increase trade size can also increases emotions adding stress, fear, and greed when your trade size and need to be right grows. I believe margin is best used to increase the frequency of your trading by using the buying power not increasing your position sizing. The current SEC rules specify it takes three days for settlement for the sale of a stock to become official and the funds made available. It takes at minimum of three days after you exit your stock until the money is available again in your account for trading and investing. Margin helps give you access to more capital and not have to wait for trades to clear.
Margin adds buying power to your trading or investing account. Buying power is the amount of money a trader or investor has access to for stock transactions. Buying power is equal to the total amount of cash in a brokerage account and all the available margin. The normal margin account multiplies buying power by doubling it.
You must have a margin account to short sale a stock. The Federal Reserve Board under Regulation T says that every account that sales stock short must have 150% of the value of the short sale position at the time the stock is sold short. The 150% requirement is for the 100% full value of the short sale proceeds, with another margin requirement of an additional 50% of the value of the short sale held in the account. If you want to open a short sale of 100 shares of a $100 stock for $10,000 you must have at least $15,000 in your account and then maintain the margin on this position until it is bought to cover.
Margin can also be used in Forex and commodity trading. While margin can double the trading account for a stock trader, a Forex trader can be given 100 to 1 margin and allowed to trade $100,000 with a $1,000 deposit. These levels of margin are incredibly dangerous and almost always end in a trader blowing up their account as the first losing streak is the last.
The futures market gives more margin than the stock market but the margin requirements are set by the specific risks of implied volatility in each market.
In options trading margin is required when you sell to open option contracts. With options trading, margin refers to the amount of money or assets required to have on deposit based on the risk for an option play. Assets held in a brokerage account for the option writer acts as collateral and a hedge for the option writer’s risk. Option traders must maintain enough buying power for when they are forced to buy or sell the underlying asset if their option contract is assigned or if they are writing to open a contract on a cash settled option to pay the amount owed at expiration if the option gets assigned.
If a trader fails to meet the daily margin requirements due to losses they will need to sell enough positions or deposit additional funds to meet their broker’s margin call. If the account is not adjusted to cover the margin call requirements within three trading days, then positions are sold to bring the account back into the margin guidelines.
Margin is not free money, you will be charged interest on it for the duration of time it is in use to hold positions.
Always remember margin cuts both ways and amplifies both wins and losses. With today’s access to liquid options markets and leveraged ETFs the need for margin is not as great as it once was as options and leveraged ETFS have defined risk and are safer than margin in most situations. The best use of margin in my opinion is liquidity of trading capital not increasing the size of positions.