Many people buy stocks on margin with the presumption that they can borrow money against their existing stocks to leverage your return. Yet, the reality is you will get hit by the danger of buying stocks on margin.
Trading on margin is an inherently speculative strategy. It can transform even the safest investment into a risky gamble. It triggers people to aggressively buy more shares of a company than they could afford.
Once things go against them, it can turn really fast. At worst, it can lead to personal or corporate bankruptcy.
The definition of margin
The easiest way to understand margin is it allows people to invest with borrowed money. All of the assets in your account, as well as your personal guarantee, are held as assurance.
Later, you need to repay the debt no matter what happens in the trading account itself.
If your account blows up, you still cannot fully enjoy your money due to payments you have to make. There is no payment plan and negotiating terms in margin trading.
Once you do not pay, the broker can haul you into court to start getting judgments to seize your other holdings.
Meanwhile, if your credit score plummets, then, everything tied to your credit rating getting destroyed, too. Your insurance rates could skyrocket.
If that happens, you can get restricted to borrowing access, asked cash security deposit by the utilities or phone companies, or even lost your potential jobs.
Also read: Stocks Trading 101: Defining Brokerage Account Confirmation
The Risk of buying stocks on margin
There are some true stories that show the risk of buying stocks on the margin. One of them is when individuals lost everything when they swung for the fences buying more shares than they could afford, of a company called GT Advanced Technologies.
Their accounts were wiped out, resulting into some investors talked about contemplating suicide.
Margin account will also expose you to rehypothecation risk. In this situation, a broker may take collateral you put in to cover a margin position and use it to finance their own transactions.
