Margin
In finance, the margin is the collateral that an investor has to deposit with their broker or exchange to cover the credit risk the holder poses for the broker or the exchange. An investor can create credit risk if they borrow cash from the broker to buy financial instruments, borrow financial instruments to sell them short, or enter into a derivative contract.
Buying on margin occurs when an investor buys an asset by borrowing the balance from a broker. Buying on margin refers to the initial payment made to the broker for the asset; the investor uses the marginable securities in their brokerage account as collateral.
In a general business context, the margin is the difference between a product or service's selling price and the cost of production, or the ratio of profit to revenue. Margin can also refer to the portion of the interest rate on an adjustable-rate mortgage (ARM) added to the adjustment-index rate.
Definition: In the financial industry, margin is collateral that an investor deposits with their broker or exchange to cover the credit risk the holder poses to the broker or exchange. If an investor borrows cash from a broker to purchase financial instruments, borrows financial instruments to short sell, or enters into derivative contracts, they may incur credit risk. Buying assets on margin refers to the initial payment made by the investor to the broker for the asset; the investor uses marginable securities in their brokerage account as collateral.
Origin: The concept of margin trading dates back to the late 19th and early 20th centuries when stock markets began to become popular. As financial markets developed, margin trading gradually became a common investment method, especially before the 1929 stock market crash in the United States, where margin trading was widely used.
Categories and Characteristics: Margin can be divided into initial margin and maintenance margin. The initial margin is the minimum amount that an investor needs to deposit when making a trade, while the maintenance margin is the minimum account balance that must be maintained while holding a position. If the account balance falls below the maintenance margin, the investor will receive a margin call, requiring them to deposit additional funds. Characteristics of margin trading include leverage, where investors can control larger positions with less capital, but it also increases risk.
Specific Cases: Case 1: Suppose Investor A wants to buy $100,000 worth of stocks but only has $50,000 in cash. Through margin trading, he can borrow another $50,000 from the broker to purchase all the stocks. If the stock price rises to $120,000, Investor A can sell the stocks and, after deducting the loan and interest, make a profit. Case 2: Investor B wants to short sell a stock. He can borrow the stock and sell it. If the stock price falls, he can buy back the stock at a lower price, return the borrowed stock, and earn the difference.
Common Questions: 1. What is a margin call? When the account balance falls below the maintenance margin, the broker will require the investor to deposit additional funds. 2. What are the risks of margin trading? The main risks include losses due to market fluctuations and the risk of not being able to meet margin calls in time.
