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Those seeking to invest in the stock market have the opportunity to take advantage of a wide range of financial tools with which they can potentially generate wealth.
Introduction
Of these options, margin trading is one such tool that investors may seek to employ. Read on to understand all that a margin trading fund entails.
What is a Margin?
In order to grasp what a margin trading fund (or MTF) is, it is important to first understand what a margin is.
A margin refers to the collateral required to be deposited by investors with their brokers or to an exchange. This collateral helps cover the credit risk that the investor in question incurs for the broker or exchange. This investor is capable of generating credit risk should they borrow funds from the broker with which they then purchase financial instruments, borrow the same to then sell them short, or should the investor agree to a derivative contract.
Buying on margin takes place when an investor purchases an asset with the aid of borrowed funds for the balance via a broker. Buying on margin can therefore be understood to be the initial payment provided to the broker for the asset or security in question. What serves as collateral are the marginal securities that lie in the investors brokerage account.
What is Margin Trade Funding?
Simply put, margin trading allows you to purchase stocks that you wouldn’t ordinarily be able to afford.
This purchase is permissible owing to the fact that you are still expected to pay a marginal amount of the entire value of the stocks.
This payment is made with the ad of cash or else shares that serve as security.
Margin trade funding, therefore, refers to the purchases of stocks with a portion of your own money and the remainder being funded by your broker.
As an investor, you can settle your score when you square off your position.
You generate a profit in scenarios of the profit earned surpassing the margin. If this doesn’t occur, you incur a loss.
Exploring the Features
There are a wide range of features for margin funding that are mentioned below.
- Investors have the opportunity to leverage positions in securities that don’t belong to the realm of derivatives.
- As per SEBI regulations, only authorized brokers have the authority to provide margin trade accounts.
- The SEBI along with a number of stock exchanges are responsible for defining securities that can be margin traded.
- Investors have the liberty to create positions that go against the margin with the aid of cash or collateral via shares.
- These margin-created positions can be advanced up to a maximum time frame of N+T days. N here refers to the number of days this position can be carried forward. Different brokers might stipulate different time frames. T refers to trading days.
- Those investors that seek to partake in margin trading must create an MTF account with their brokers. Investors must acknowledge that they accept the terms and conditions and are cognizant of the benefits and risks involved.
Advantages of Partaking in Margin Trading
Margin trading is advantageous for a number of reasons some of which have been explored below.
- Margin trading is an ideal option for investors seeking to profit from price fluctuations over a small time frame but have insufficient funds on hand.
- As an investor, you can make use of the existing securities you have in your portfolio or demat account which can be used as a security or collateral.
- Should you partake in a margin trading fund you can improve the rate of return on the capital you invest.
- By partaking in a margin trading fund as an investor you can enhance your purchasing power.
- SEBI and stock exchanges keep a constant check on margin trade funding.
Risks Associated with Margin Trading
All investors ought to be aware of the potential risks associated with partaking in margin trading.
Magnified losses - THese are a possibility the same way magnified profits are. This means that you have the potential to lose more than what you invested in the first place. While you might think that brokers are easier to deal with, they bind you in the same way a bank might.
Minimum balance - This is required to be maintained at all times in order to hold a margin trade account. Should your margin drop below this minimum your broker will ask you to maintain the minimum balance. Else you would be required to sell some or all of your assets in order to maintain this minimum balance.
Liquidation – Should you as an investor be unable to abide by your margin trade agreement your broker has the right to take action against you. This means that if you are unable to meet a margin call your broker can sell your assets and thereby recover their money.
Conclusion
It is important to play the stock markets with care. This means that you should invest wisely and if you decide to partake in margin trading try to always borrow less than the limit you are allowed to borrow up to. Furthermore, try to borrow for short time frames such that you avoid high-interest charges.
FAQs
Q1. What does MTF stand for?
A1. MTF stands for margin trade funding.
Q2. Is there anyone responsible for keeping an eye out for the activities of brokers that offer margin trading funding such that there is always transparency?
A2. Yes, the Securities and Exchange Board of India (or SEBI) is responsible for regulating and monitoring such activities along with the appropriate stock exchanges.
Q3. Can you improve your capital by partaking in MTF?
A3. Yes, you can improve the rate of return on the capital you invest via MTF. This is also capable of enhancing your purchasing power.
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