Margin refers to buying shares of stock or other securities with a combination of the investor’s own funds and borrowed funds. The buyer pays only a percentage of the asset’s value and borrows the rest from the bank or broker.
The bought securities are used as collateral on the loan. The margin is the amount the investor puts down on the account, and is typically expressed as a percentage.
The Case of Buying on a 50% margin:
| PARAMETERS | WITHOUT MARGIN | ON MARGIN |
| Price of share | GH¢5.00 per share | GH¢5.00 per share |
| Amount borrowed | GH¢0.00 | GH¢5,000.00 |
| Amount paid by investor (personal funds) | GH¢5,000.00 | GH¢5,000.00 |
| Interest charge on margin | GH¢0.00 | GH¢500.00 |
| Minimum margin requested by broker | GH¢0.00 | GH¢3000.00 |
| Total Value of Shares owned | GH¢5,000.00 | GH¢10,000.00 |
| NB: 50% margin =GH¢5,000.00
Personal funds of both investors are of same value of GH¢5000.00 |
||
Maintenance Margin
This is the lowest required equity level (money/securities) that must be held with a broker in a margin account to be able to borrow from a brokerage. When the equity value moves below the minimum maintenance, the broker may issue a margin call.
Buying on margin is advantageous in cases where the investor anticipates earning a higher rate of return on the investment than he is paying in interest on the loan. This is because buying on margin has the effect of magnifying the investor’s percentage gain or loss as compared to the percentage gain or loss the investor would have realised without borrowing.
When there is a 50% increase in stock prices
| PARAMETERS | WITHOUT MARGIN | ON MARGIN |
| Share value after increase | GH¢7,500.00 | GH¢15,000.00 |
| Investor’s Gain (Net) | GH¢2,500.00 | GH¢4,500.00 |
When there is a 50% drop in stock prices
| PARAMETERS | WITHOUT MARGIN | ON MARGIN |
| Share value after drop | GH¢2,500.00 | GH¢2,500.00 |
| Investor’s Loss (Net) | GH¢2,500.00 | GH¢8,000.00 |
Margin Call
An order by a brokerage for additional funds or securities to be deposited by an account holder into the margin account when the value of equity falls below the maintenance margin.
In the scenario of share price drop above, the investor must pay the broker GH¢500 to restore the maintenance margin. After paying the margin call, the investor still owes GH¢2,500 the to broker. If the investor fails to pay the margin call, the securities will be sold for the broker.
As explained earlier, an investor can gain or lose big when buying on margin; this makes it necessary to seek expert advice when investing on a margin.
You may send comments, questions or suggestions if any to [email protected] and @richmondkwamefrimpong across all social media platforms.
