Trading stocks using margin comes up regularly when discussing stock trading techniques. In talking to several experienced traders and through my own experience I have come up with a couple conclusions regarding when to use margin to help enhance your trading. Remember using margin is like using a credit card.
When using Margin is good…
To enhance your day trading power. Having margin available to cover your funds while they settle for three days will greatly increase your amount of trades you can make. Typically brokers are required to hold funds from the sale of a stock for 3 days (T+3) before they can release it to you. Margin will cover those funds for you till you receive them and let you to continue trading. Keep in mind that there is a limit to your margin so you still need to keep an eye on how much you are using. Check with your broker to get more info on how much margin you can be approved for, its typically related to how much cash you have in your account and what buying power you’re approved for.
When using Margin can be bad…
Buying stocks beyond your account value. Here’s where things get risky. So lets say all of your money is tied up in stocks and all of a sudden you see a golden opportunity! You think its a sure thing, so you decide to use your margin to buy XYZ. This is no different than using a credit card to buy your stocks. Unfortunately none of us have a crystal ball and the next day we have an epic stock market crash. Now you’re stuck with no way to settle your margin call unless you add more cash to your account. You will also be paying interest on that amount that you owe till you pay it. To me this is one thing traders should stay away from.
I utilize my margin account throughout the day and there have been times where I over extended my cash and had to dip into my margin, but I ALWAYS settle what I need to get back to even and never hold beyond my net cash value overnight. E-trade gives a couple examples of using margin to enhance your buying power.
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It’s a great tool to be able to have at your discretion but should be used with caution, whether you win or lose your broker is making interest on the margin that you use. Just keep in mind my examples above and be smart about how you use your margin. I know people who never use it but they also have a lot of cash available to trade with. I find that for now using margin intraday and settling before the end of the day is the safest way to keep yourself in check. Make sure you read your brokers margin rules carefully because they differ from broker to broker.