Trading education

So you have this great stock trading idea and have just found a stock that you believe would make you tons of money if you applied this idea to it. You have some cash in your account, but not enough to really make a killing with this idea of yours. Is there a good and quick way to get some more funds to capitalize on your brilliant idea?

Well, it turns out that there is such a way. Just ask your broker to lend you some money. This can be done totally over the counter, it’s absolutely legal, has been in use for many decades, and virtually everyone can take advantage of it. No special application is needed for this, either. You simply use more funds than you have in your account and keep on living your life as if nothing really happened. This sort of stock trading when the broker’s money is used in addition to your own funds is called trading on margin.

You need to have a margin account for this, though, which is pretty much the same as the ordinary stock trading account, but it’s just called a margin account as it comes with the privilage of borrowing money from your brokerage. And you need to apply for it first. In fact, if you don’t have a regular stock trading account yet and plan on opening it, I suggest you simply open a margin account to make your life easier in future. Because if you ever decide that it’s a good idea to put some of your broker’s money to work for you, you will find this account just handy. You can do in this account everything you could do in a regular trading account, plus more. And this more includes not only trading stocks on margin, but also trading stock options. In fact, you cannot trade options in a regular stock trading account. A margin account is necessary for that.

Now, you can borrow against the cash or the securities you hold in your account, treating them simply as a collateral. Ordinarily, you can borrow up to the amount that is the combined value of cash plus the securities you have in your account. In some cases, if you qualify for a day trading stock account, you can use 3 times the amount of cash and securities you have in your account. In the first case, if you have only $5,000 you can borrow another $5,000. In the other case, you could extend your purchasing power by an extra $15,000, so your leverage would be 4 times what your cash (and securities) could offer you.

Sounds great, doesn’t it? Well, yes, at least at first. But when you realize that you could be losing your money 2 or even 4 times faster had the market refused to cooperate, you may as well change your mind.

The thing is that while using margin to boost your stock trading profits is not a bad idea, an excessive leverage is definitely a bad idea, so if you ever decide to choose this path, you may want to tread lightly here and limit your margin exposure to not more than 50% of your account cash value.

Trading stocks on margin is not for the faint of heart. It requires you to have strong nerves, good trading discipline and a solid trading method. Without these elements, you don’t even think about using your broker’s money.

Before you ever use margin, make sure that you have traded without it for a while and you are experienced enough to handle an additional risk of potentially losing not only your money but also the broker’s. Well, the latter will usually not happen for if the brokers money were at risk, your position would be liquidated and you might also receive a margin call asking you to pay for what you own your broker. Just as I said: tread carefully here.

By: Waldemar Puszkarz