Margin trading is a sophisticated investment tool that involves borrowing funds to buy securities you cannot afford in full by increasing your buying power. If you are new to margin trading, you are in the right place. Here we will explain how exactly margin trading works. But before that, let us take a glance at the concept.
What is Margin Trading?
What do we do when we want to buy something that we can’t fully afford? We take a loan against collateral. In the world of online share market trading, you can borrow funds from your broker to pay for securities. This is known as ‘Margin Trading’.
Instead of paying the entire value, you can leverage positions by paying a margin amount to the broker. This is collateral that you can pay in either cash or shares. Your broker will pay for the stocks, which can be settled at a later date.
Margin trading is best for those who don’t have enough cash balance at the moment but expect a certain price movement in a financial asset and want to benefit from it.
How Does Margin Trading Work?
Margin trading works via a Margin Trading Facility (MTF). A SEBI-registered broker or online trading platform that allows you to carry out margin trading.
Let us understand how margin trading works with an example. Mr A has Rs 5000 in hand and wants to buy 50 shares priced at Rs 100 each. He expects the share price to grow in two days. He can simply go ahead and buy 50 shares with his capital or he can put down Rs 5000 as a margin with an MTF and buy 100 shares worth Rs 10,000.
Suppose two days later, the value per share increases to Rs 120. So now, he can sell his shares to make a total profit of Rs 12,000. After he pays back Rs 5000 and interest, he would still end up with a profit. Thus, margin trading not only increased Mr A’s buying power but also his profit.
However, there are certain things that you should be aware of such as a margin call. For making margin trades, you must maintain a minimum amount in your margin account.
If the stocks decline below the minimum requirement within the duration of your trade, it will trigger a ‘margin call’. It means that you must add more funds to the account to meet the minimum equity requirement. Thus be consistent with maintaining the margin to avoid premature selling of your positions.
Things to Remember
It is important to note that irrespective of profit or loss on your trades, you will have to pay the borrowed amount. Thus, choose your broker and trade carefully when doing margin trading.
Dhan provides a margin trading facility where you can invest and trade on over 950 stocks with up to 4x leverage. It also offers a lower interest rate on margin trading compared to other trading platforms.
Conclusion
Margin trading allows a trader to borrow funds from a broker to carry out trades they cannot fully afford at the moment. You must have a clear idea of your trade’s potential to earn decent returns. Dhan offers a feature-rich margin trading facility where you can enjoy decent leverage, diverse options and low-interest rates.
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