For the past seven years, Kat has been helping people make the best financial decisions for their unique situations, whether they're looking for the right insurance policies or trying to pay down debt. Kat has expertise in insurance and student loans.
Kat Tretina Personal Finance WriterFor the past seven years, Kat has been helping people make the best financial decisions for their unique situations, whether they're looking for the right insurance policies or trying to pay down debt. Kat has expertise in insurance and student loans.
Written By Kat Tretina Personal Finance WriterFor the past seven years, Kat has been helping people make the best financial decisions for their unique situations, whether they're looking for the right insurance policies or trying to pay down debt. Kat has expertise in insurance and student loans.
Kat Tretina Personal Finance WriterFor the past seven years, Kat has been helping people make the best financial decisions for their unique situations, whether they're looking for the right insurance policies or trying to pay down debt. Kat has expertise in insurance and student loans.
Personal Finance Writer Michael Adams Investing EditorMichael Adams is an investing editor. He's researched, written about and practiced investing for nearly two decades. As a writer, Michael has covered everything from stocks to cryptocurrency and ETFs for many of the world's major financial publicatio.
Michael Adams Investing EditorMichael Adams is an investing editor. He's researched, written about and practiced investing for nearly two decades. As a writer, Michael has covered everything from stocks to cryptocurrency and ETFs for many of the world's major financial publicatio.
Michael Adams Investing EditorMichael Adams is an investing editor. He's researched, written about and practiced investing for nearly two decades. As a writer, Michael has covered everything from stocks to cryptocurrency and ETFs for many of the world's major financial publicatio.
Michael Adams Investing EditorMichael Adams is an investing editor. He's researched, written about and practiced investing for nearly two decades. As a writer, Michael has covered everything from stocks to cryptocurrency and ETFs for many of the world's major financial publicatio.
Updated: Feb 22, 2022, 1:05pm
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Trading on margin allows you to borrow money to buy securities, like stocks, and make larger investments. While buying on margin can increase your returns, you also face more significant risks when investing with borrowed money. Perhaps the biggest risk of margin trading is the dreaded margin call, which can force you to liquidate a lot of securities quickly—even if it’s at an enormous loss.
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A margin call is a warning that you need to bring your margin account back into good standing. You might have to deposit cash or additional securities into your account, or you might need to sell securities to increase the ratio of assets you own entirely to the amount you borrowed.
Before we delve further into the specifics of what circumstances might lead to a margin call—and how you can avoid one entirely—you first need to understand how margin trading works.
Buying on margin is when you use someone else’s money, normally your brokerage’s, to buy more securities than you would with the cash balance in your account. You gain access to this institutional leverage through a special type of brokerage account called a margin account.
If you had $1,000 in your margin account, for example, you would be able to buy $2,000 worth of stocks using margin. Margin is just another word for a loan, and the cash and securities in your margin account serve as collateral for anything you borrow. When you buy on margin, you are charged an interest rate on the amount of additional money you borrow.
Because of its potential to boost investment returns, buying on margin is a popular investment strategy for experienced investors. But it can be a very risky approach because you can lose substantially more than just the money you invest. You’re also on the hook for the amount you borrow—and the interest you owe on it—even if the value of the securities you’ve purchased drops.
That’s why it’s particularly important to pay attention to the maintenance margin you agreed to.
The Financial Industry Regulatory Authority (FINRA) requires brokerage firms to set maintenance requirements on all margin accounts. These requirements, called maintenance margin, specify the minimum percentage of investments you must wholly own in your margin account at all times. These requirements aim to prevent you from defaulting entirely on loans.
Generally, the maintenance margin is 25%, meaning you have to own outright at least a quarter of what’s in your margin account. Some brokerages may have maintenance margin requirements as high as 30% or 40%.
Maintenance margin can get a little confusing because it’s calculated based on your securities’ current value and how much you borrowed from the brokerage to purchase them.
Let’s say you borrowed $500 on margin to purchase $1,000 worth of stock. You would violate your brokerage’s maintenance margin if the value of the stock fell to $500. In this case, the value of your margin account would be equal to your debt, meaning you’d “own” 0% of your investment in stock.
In this case, you’d receive a margin call and be required to deposit money or sell off some of your stocks to bring yourself back into good standing.
A margin call occurs if your margin account value falls below the brokerage firm’s maintenance margin requirement. This generally takes place when the value of the securities in your margin account declines. In rare cases, it might happen if your brokerage changes its maintenance margin requirements to a higher amount.
Here’s how that might play out. Say you borrowed $10,000 on margin and combined it with $10,000 of your own cash. You could then purchase $20,000 of securities. If the market value of your investment drops to $16,000, you would only have $6,000 in equity. That’s because maintenance margin is calculated based on the current value of securities minus the amount you owe, which works out to $16,000 – $10,000 in this case.
If your brokerage firm had a 40% maintenance margin requirement, you’d need to have at least $6,400 in equity in your account (40% of $16,000 equals $6,400). In this scenario, you’d be short $400, so the firm might issue a margin call and require you to make a deposit or sell securities to make up the difference.
If your account falls below the brokerage firm’s maintenance requirement, the firm will make a margin call and request that you add money or securities to your margin account. If you cannot meet the margin call, your brokerage will sell your securities until your account meets maintenance margin again.
Brokerages may not always issue margin calls or inform you that your account has fallen below the required maintenance requirement. In some cases, they may opt to sell your securities to return you to maintenance margin without giving you any notice.
Make sure you read your firm’s margin agreements carefully so that you understand its terms and how it handles margin calls. Remember: Assets liquidated during margin calls are generally sold at a loss.
You can decrease the likelihood you receive a margin call by doing the following:
