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Textbook
1. Common stock
2. Preferred stock
3. Debt securities
4. Corporate debt
5. Municipal debt
6. US government debt
7. Investment companies
8. Alternative pooled investments
9. Options
10. Taxes
11. The primary market
12. The secondary market
13. Brokerage accounts
13.1 Fundamentals
13.2 New accounts
13.3 Account registrations
13.4 Margin accounts
13.4.1 Overview
13.4.2 Opening a margin account
13.4.3 Deposit requirements
13.4.4 Equity
13.4.5 Minimum maintenance
13.5 Options accounts
13.6 Other account specifications
14. Retirement & education plans
15. Rules & ethics
16. Wrapping up
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13.4.1 Overview
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13. Brokerage accounts
13.4. Margin accounts

Overview

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At brokerage firms, there are two main types of accounts: cash and margin accounts. Cash accounts require customers to pay 100% for each security transaction and prohibit strategies that involve unlimited loss potential like short selling securities. Margin accounts allow customers to borrow money for investment purposes and allow risky strategies. In fact, margin accounts are required for short sales and any other strategy involving unlimited risk (like short calls).

When a customer borrows money for investment purposes, they leverage themselves. Leverage involves amplified gains and losses. Customers utilizing margin accounts are able to make more money when they make the right investments, but also are subject to more losses when the market moves against them.

Imagine you have $5,000 of your own money and borrow another $5,000 from a friend. Then, you take all $10,000 to the casino and bet it all on one game. If you win, you double your money to $20,000, which would make you more money than if you only had your $5,000. If you lose, you not only lose your $5,000, but also your friend’s $5,000 that you owe back to them.

Borrowing money for gambling works the same way as investing. Investors make more money if they make the right investment, but could lose more if they’re wrong. There’s a fair amount of risk involved with margin accounts, which is why they’re only suitable for risk-tolerant investors that can withstand losing significant amounts of money.

In this chapter, we’ll discuss how margin accounts work, the regulations that govern them, and how customers utilize them.

Key points

Margin accounts

  • Borrow money for investment (leverage)
  • Only suitable for risk-tolerant investors

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