Joseph Stone Capital Insights: How Margin Accounts Work and Why Losses Can Exceed the Initial Deposit

A margin account lets an investor borrow money from a broker-dealer to buy securities, using the securities in the account as collateral. Borrowing increases exposure in both directions: gains and losses are measured on the full position, not only on the investor's own cash.

Key rules.

• Under the Federal Reserve Board's Regulation T, an investor generally may borrow up to 50% of the purchase price of eligible securities.
• FINRA Rule 4210 requires a minimum equity of $2,000 to open a margin account (with exceptions) and maintenance equity of at least 25% of the market value of securities held long on margin. Firms may set higher "house" requirements and may raise them at any time.
• Interest is charged on the borrowed amount.

Margin calls. If the value of the securities falls and the account's equity drops below the maintenance requirement, the firm can issue a margin call asking for more cash or securities. Under standard margin agreements, a firm may sell securities in the account without contacting the customer first and may choose which securities to sell. Investors are not entitled to an extension of time on a margin call.

Risks to understand.

• Losses can be larger than the amount originally deposited, and an investor can owe the firm money after a position is sold.
• Volatile or concentrated positions are more likely to trigger margin calls.
• Many low-priced, newly public or thinly traded securities are not marginable or carry higher requirements.

Before using margin. FINRA Rule 2264 requires firms to give customers a margin disclosure statement describing these risks. Reading it, along with the margin agreement, is a basic first step for anyone considering borrowing against a brokerage account.

Sources: FINRA Rule 4210 and Rule 2264; FINRA Investor Insights, "Understanding Margin Accounts"; Federal Reserve Regulation T (12 CFR Part 220); SEC Investor.gov, "Margin: Borrowing Money to Pay for Stocks."

Disclosure: Joseph Stone Capital, LLC, member FINRA/SIPC, 585 Stewart Avenue, Suite L60C, Garden City, NY 11530. This material is for informational and educational purposes only and is not an offer to sell or a solicitation of an offer to buy any security, nor a recommendation of any security or strategy. Investing involves risk, including the possible loss of principal. Past performance does not guarantee future results. Check the background of any firm or registered representative on FINRA BrokerCheck.