9.3 Margin Account Transactions

Margin Account Transactions

In this section, we explore the workings of margin accounts, focusing on the establishment of long and short margin positions, and the impact of price changes on these positions.

2 | Establishing Long and Short Margin Positions

Long Margin Position

A long margin position allows an investor to partially finance the purchase of securities by borrowing money from the dealer. The assumption behind a long margin purchase is that the price of the security will increase over time, enabling the investor to sell the security at a higher price for profit.

Short Margin Position

A short margin position allows an investor to sell borrowed securities with the expectation that the price of the security will decrease. The strategy here is to buy back the shares at a lower price and return them to the lender, profiting from the price difference.

Establishing a Margin Account

Before transacting on a margin account, the dealer member must require clients to complete and sign a Margin Account Agreement Form. Not all dealer members offer margin accounts, so availability may vary.

3 | Impact of Price Changes on Long and Short Margin Requirements

The impact of price changes in long and short positions is crucial for maintaining adequate margin levels in the account.

Long Margin Scenario Example

Assume you decide to buy 100 shares of Company X on margin at a price of $50 per share:

• Initial Purchase: 100 shares x $50 = $5000
• Initial Deposit (50% margin): $2500
• Loan from Dealer: $2500

If the stock price rises to $60 per share, your equity increases:

• New Value: 100 shares x $60 = $6000
• Loan: $2500
• New Equity: $6000 - $2500 = $3500

If the price drops to $40 per share, your equity drops, potentially triggering a margin call:

• New Value: 100 shares x $40 = $4000
• Loan: $2500
• New Equity: $4000 - $2500 = $1500

Short Margin Scenario Example

Assume you short 100 shares of Company Y at $70 per share:

• Initial Sale: 100 shares x $70 = $7000
• Initial Deposit: $7000 (held in margin account)

If the stock price falls to $60 per share, your position profits:

• New Value: 100 shares x $60 = $6000
• Profit: $7000 - $6000 = $1000

If the price increases to $80 per share, losses occur and a margin call may be triggered to meet margin requirements:

• New Value: 100 shares x $80 = $8000
• Loss: $8000 - $7000 = $1000

Interest Calculation

Interest on margin loans is calculated daily and charged monthly using the prevailing rates determined by the dealer. The formula for daily interest is as follows:

This amount accumulates daily and is invoiced at the end of every month.

Key Takeaways

• Margin Accounts allow partial funding of securities through loans from dealers.
• Long Margin Positions involve buying securities with the hope of price appreciation.
• Short Margin Positions involve borrowing and selling securities with the expectation of price decline.
• Price Changes significantly impact margin requirements and equity levels within the account.
• Interest Calculation on margin loans uses daily rates based on the loan’s outstanding balance.

Glossary

• Margin: The initial equity or money required by an investor to transact in margin accounts.
• Long Position: Purchasing securities with the intent of selling them at a higher price in the future.
• Short Position: Selling borrowed securities with the aim of buying them back at a lower price.
• Margin Call: A broker’s demand for an investor to deposit extra money or securities to cover potential losses.
• Debit Balance: The amount of money borrowed in a margin account.
• Equity: The net value of an investment after accounting for all outstanding debts.

Frequently Asked Questions

1. What is the minimum deposit required for a margin account?
   • The minimum deposit may vary by dealer but typically ranges from 25% to 50% of the total transaction value.
2. What triggers a margin call?
   • A margin call is triggered when the equity in the margin account falls below the maintenance margin requirement set by the dealer.
3. How is daily interest on a margin loan calculated?
   • Daily interest is calculated using the formula: ( \left(\frac{\text{Annual Interest Rate}}{365}\right) \times \text{Debit Balance} ).

Charts

Below is an example chart for visualizing the impact of price changes on the equity in a long margin position:

    
	graph LR
	    A[Initial Purchase] -->|Price Rises to $60| B[Increased Equity to $3500]
	    A -->|Price Drops to $40 | C[Reduced Equity to $1500]

In this section

• 9.3.1 Long Margin Accounts
  A comprehensive guide to understanding long margin accounts, including regulations, examples, risks, and frequently asked questions as per IIROC guidelines.
• 9.3.2 Short Margin Accounts
  Comprehensive guide to short margin accounts including definitions, examples, and margin requirements. Learn about short selling, its risks, profit calculations, and industry practices.
• 9.3.3 Risks Of Short Selling
  Understanding the various risks associated with short selling, including borrowing shares, maintaining adequate margin, liability for dividends, buy-in requirements, volatile price action, and regulatory risk.