Buying investments on margin, or margin investing, has to do with how you trade — and it can offer DIY investors more flexibility. But before you dive into margin trading, it’s important to understand the details of this advanced investing technique.
What is a margin account?
A margin account lets you borrow money to invest in a security that’s traded on the stock market. Your brokerage decides details like:
Which securities can be traded on margin
The amount you can borrow (which typically depends on the value of your holdings, but varies by brokerage)
The interest rate on your margin loan
The percentage of securities you must pay for with cash, known as the initial margin — you can legally borrow up to 50 percent of the purchase price
Read more: Curious about investing? Get started on your DIY investing journey with Ally Invest.
What is margin trading and how does it work?
Margin trading increases your purchasing power by allowing you to borrow from your brokerage rather than using only your own money. Essentially, you’re borrowing with the assumption that the price of the stock you’re purchasing will rise. Trading on margin has the potential to amplify your gains, but it can also increase your losses, even resulting in losing all your money and owing more on top of that.
To get started, you’ll first need to review and sign a margin agreement and set up a margin trading account with your brokerage. Then, make an initial transfer of at least $2,000 into your margin account. Once that’s done, you can double your buying power.
Trading on margin can amplify your gains, but it can also increase your losses.
Risks and rewards of margin trading
Carefully consider the benefits and drawbacks before trading on margin. The benefits of margin trading can include:
Having more money available to avoid tying up all your investable dollars
A lower initial cash investment, with a potentially higher ratio of returns
Flexibility to diversify into other investments in your trading account — increased diversification may help provide insulation against risk
Minimizing the need to liquidate other investments to buy additional shares
Gains without margin
50 shares of $100 stock | -$5,000 |
Stock rises to $150 and you sell your 50 shares | +$7,500 |
Total gain | +$2,500 |
Gains with margin
50 shares of $100 stock | -$5,000 |
Additional 50 shares on margin | $0 |
Stock rises to $150 and you sell your 100 shares | +$15,000 |
Repay margin loan (Note this does not include interest owed) | -$5,000 |
Total gain | +$5,000 |
But margin trading also comes with significant risk. If the stock you’ve invested in sees a sharp drop-off in value, you could lose more than the amount you deposited in your margin account. You’ll also be required to pay interest on what you borrowed on margin, no matter how your investment performs. That’s why margin trading is considered an investing strategy for advanced traders with a high-risk appetite.
Losses without margin
50 shares of $100 stock | -$5,000 |
Stock drops to $5 and you sell your 50 shares0 | +$5,000 |
Total loss | -$2,500 |
Losses with margin
50 shares of $100 stock | -$5,000 |
Additional 50 shares on margin | $0 |
Stock drops to $75 and you sell your 100 shares | +$5,000 |
Repay margin loan (Note this does not include interest owed) | -$5,000 |
Total loss | -$5,000 |
What is a margin call?
A margin or maintenance call is when your brokerage asks you to either deposit marginable securities, liquidate some securities or add more cash to your margin account because of a drop in your account value. Brokerages typically require you to have at least 25 percent equity of the total market value of the securities in your account. Ally Invest has a minimum of 30 percent, but some firms have a threshold as high as 40 percent. A brokerage may increase its account maintenance margin requirement at any time.
If you don’t respond to a margin call by making a deposit to meet the required maintenance level, your brokerage can sell the shares of its choosing in your margin account to make up the difference — potentially selling some (or all) of your holdings. Margin calls can result in quick and significant cash losses, so keep this in mind before investing.
Margin trading strategies
Margin borrowing may be appealing to self-directed traders, but might be too risky for newer investors. You can’t eliminate risk entirely with margin trading, but if you’re considering the strategy, think about:
Using margin trading as a short-term strategy, helping you potentially capitalize on stock gains while minimizing margin interest.
Diversifying your margin trades with multiple stocks spread across different sectors or investing in exchange-traded funds or mutual funds.
Building a margin trading strategy that acknowledges your risk tolerance. Establish a limit for your acceptable losses and consider adjusting the maintenance margin as it suits your needs.
If you’ve weighed the positives and risks of trading on margin and consider yourself ready to invest, Ally Invest offers margin trading for self-directed investors.
Regulations and limits of margin trading
The SEC sets guidelines surrounding margin trading, but it’s important to closely review your margin agreement ahead of making any investments. If you’re an investor hoping to make the most of market volatility with margin trading, familiarize yourself with the rules before you make any moves.
Managing your margin
For experienced traders, a margin account can be a useful part of your investment strategy. By understanding the risks involved, you’ll be able to develop an informed trading plan aligned with your risk tolerance and financial goals.
