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why do I need margin?
- Thread starter MZG
- Start date
Quote from MZG:
I have a question. Why do I need a margin account with online retail accounts like E trade to short sell a company giving that I have sufficient funds. Can some one please give me the answer with example?
if u don't know this.............................. nevermind, i'll just tell you.
If you long a stock. you can use cash account. fine. have 10k in you cash account. you buy 1000 shares of $10 stock. Now, stock goes bankrupt and goes to 0. you lose everything. your acct is now at $0. end of story.
If you short a stock. Lets suppose you have $100k in your acct. you short 10k shares of a $10 stock. The stock goes to $20. Now you are down by $100k thus making your equity $0. wait, the stock goes to 30, then 40, and finally settles at 50. Now you've lost another $300k..........this is why u need a margin acct.
it does matter if you have $100million in you account and you only use $1million of it to short a stock. if the stock can grow 1000x then you lose everything plus more.
places like Etrade will use this requirement to their advantage to make interest off of traders. i.e. lets say u have 100k in equity with 2x buying power. if you buy 100k worth of stocks, you'll still have 100k in buying power, but pay interest in $50k worth, which is what you borrowed(according to etrade).
Quote from MZG:
I am not finance major. Can you explain?
when you want to short 100 stocks let say apple (appl), u have to find somebody who owns 100 appl stocks and borrow that 100 appl stocks. when u borrow that 100 appl, the person demand deposit (margin). he wants to make sure u will give him back the 100 appl.
Now, let say the market went against u. appl is going up. obviously, he may wants his appl stock back so he can sell it to profit. However, because u dont want to exit and take a loss, he will demand more deposit (margin call) because the value of the appl doubled means more deposit
Hope this help