What is ‘Margin Trading’
Definition: In the stock market, margin trading refers to the process whereby individual investors buy more stocks than they can afford to. Margin trading also refers to intraday trading in India and various stock brokers provide this service. Margin trading involves buying and selling of securities in one single session. Over time, various brokerages have relaxed the approach on time duration. The process requires an investor to speculate or guess the stock movement in a particular session. Margin trading is an easy way of making a fast buck. With the advent of electronic stock exchanges, the once specialised field is now accessible to even small traders.
Description: The process is fairly simple. A margin account provides you the resources to buy more quantities of a stock than you can afford at any point of time. For this purpose, the broker would lend the money to buy shares and keep them as collateral.
In order to trade with a margin account, you are first required to place a request with your broker to open a margin account. This requires you to pay a certain amount of money upfront to the broker in cash, which is called the minimum margin. This would help the broker recover some money by squaring off, should the trader lose the bet and fail to recuperate the money.
Once the account is open, you are required to pay an initial margin (IM), which is a certain percentage of the total traded value pre-determined by the broker. Before you start trading, you need to remember three important steps. First, you need to maintain the minimum margin (MM) through the session, because on a very volatile day, the stock price can fall more than one had anticipated.
For example, if a Tata Steel stock priced at Rs 400 falls 4.25 per cent and the IM and MM are 8 per cent and 4 per cent of the total value of the shares bought, respectively, then the trade-off 8%-4.25%=3.75% will be less than the MM. In this case, you will either have to give more money to the broker to maintain the margin or the trade will get squared off automatically by the broker.
Secondly, you need to square off your position at the end of every trading session. If you have bought shares, you have to sell them. And if you have sold shares, you will have to buy them at the end of the session.
Thirdly, convert it into a delivery order after trade, in which case you will have to keep the cash ready to buy all the shares you had bought during the session and to pay the broker’s fees and additional charges.
If even one of these steps is missed, the broker will automatically square off the position in the market.