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Margin Trading Explained in Detail: Concept, Advantages, and More

Stock markets offer diverse opportunities to different types of investors with varied financial goals and market experience. One can choose a trading style depending on their experience and risk appetite. Individuals with enough experience in the stock market who can determine the trends and patterns of price movement can take advantage of the margin trading facility (MTF). 

The Concept of Margin Trading Facility

Margin trading facility refers to trading financial assets in the stock market with borrowed funds from a stockbroker. Stock traders approach their brokers to borrow money when they find a market opportunity to make significant profits but face an issue of low funds. Margin trading is like a loan offered at an interest rate. The purchased securities using MTF are the collateral with the stockbroker. Stock traders need to pay a margin upfront to avail of this facility with the broker.

Illustration

Suppose a trader has Rs. 50,000, and wants to trade shares of company Z available at Rs.100 each. For a regular trade, they can buy a maximum of 500 shares with the available funds. On the other hand, by using margin trading, they can buy more stocks. If the broker can provide the trader with Rs.50,000 against MTF, the trader can buy 500 more shares. If the share price rises to Rs.110, the margin trade profit on 1000 shares is Rs. 10,000. Using profits, one can easily pay the interest to the broker. The profit against a regular trade would be Rs. 5,000 only. 

A double amount of profit seems too good but traders must look at the opposite side also. If the stock goes down to Rs.90, the trader has to bear a loss of Rs. 10,000 plus the interest amount to be paid to the broker. 

Features and Advantages of Margin Trading

Following are the features and benefits of margin trading for more clarity on the concept:

  • Bet on Bigger Trades 

MTF enables experienced traders to bet on larger trades than they could with available funds with them at a point in time. The MTF limit offered to the trader depends on the type of security being traded and the trade value. It can be as high as 5X with renowned discount brokers. 

  • Leverage on Demat Shares 

The trader can pay a margin upfront in the form of demat shares also as the SEBI (Securities Exchange Board of India) allows to pay upfront margin in the form of shares. For margin trading, an individual should open a margin trading account with a stockbroker offering affordable online trading facilities. It is important to understand what is demat account and trading account.’ A demat account holds an investor’s financial assets electronically and a trading account allows one to place a trade on the relevant exchange. 

  • Safety 

The SEBI closely monitors each trade to safeguard the interest of investors. It ensures that investors do not put themselves at huge risk by leveraging positions with unnecessarily high margins. Therefore, it continuously frames and amends the margin trading rules. Following the new SEBI rules, brokers need to submit margin information to the SEBI. They need to specify how much margin has been given to the trader based on collateralized securities.

  • Enhancing the Profit Potential

Traders can buy more securities with margin trades. If a trade goes right as planned considering the determined trend, there are greater odds to make significant gains.

  • Flexibility

MTF allows traders to hold their securities for an extended period as per their trading plans. It can be as long as 365 days with renowned discount brokers. However, traders should also consider that they need to pay interest to their brokers. With their subscription-based brokerage model, traders can avail of the lowest MTF interest rates.

Thus, MTF enables traders to trade even with limited funds. Margin trades are leveraged trades that can increase returns provided the market favours the trade as per the trader’s analysis. There is potential for higher returns in an MTF trade but at high risk. Take a position after researching well.

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