Buying on Margin is a common practice in the financial world. Many investors use this method to increase their potential profit or to reduce the risk of their investment. The investor borrows the amount they need from a broker or a bank. This means that they are not required to pay for the full value of an asset. So, if the value of an asset goes up, they will make a higher return. However, if it goes down, they are not obligated to pay the full price. The investor, however, must pay interest on the amount borrowed. In addition, if the value of an asset falls below a certain level, the investor is forced to sell their asset to pay back the loan. Most investors use this method to buy stocks. Buying on Margin is beneficial because it allows you to make more money. If you think that a stock will go up in value, you can borrow money and buy 100 shares. If the value of the stock goes up, you have made more money than if you had just bought 100 shares with your own money. However, if the stock goes down, as well as below a certain level, you are forced to sell your shares. This means that you will lose all of the money that you invested.For example, Bob has $10,000 and think that the stock of Apple Inc. will rise. He decides to use margin to buy 100 shares. The current market price of the stock is $600. The broker agrees to lend Bob $90,000, which is what he needs to buy 100 shares of Apple at $600.
Bob pays interest on the loan and the broker charges him a fee for using his money. In total, Bob pays $6,100 for the use of the broker's money. If the value of Apple goes up, Bob will make a profit of $5,400 and will owe the broker $4,500. However, if the value of Apple goes down , Bob will lose $10,000 and the broker will gain $4,000.The risk of margin trading is that you may lose more money than you invested.
