In the dynamic world of trading, there are various tools available that can help you increase your return in the stock market. One such tool or facility is margin trading, which is becoming very popular among traders as it allows them to take a larger position without paying the full value upfront. However, before trading, understanding how to use margin trading wisely becomes essential.
In this blog, we will explain the top tips for successful margin trading.
What is Margin Trading?
Margin trading involves borrowing money from a broker to purchase or sell securities. Although margin trading involves a higher risk, it enables traders to take on larger positions than their actual capital and thus magnifies profits. Typically, the trader pays a margin upfront, which is set by the broker based on the entire trade value, and the broker pays the remaining sum on your behalf. You have to pay interest on the borrowed amount.
Read Also: Margin Call: – Definition and Formula
Top tips for Successful Margin Trading
The important top tips for successful margin trading are as follows:
- Understanding: Before initiating any trade using margin, one should become familiar with the concepts of leverage, initial margin required, etc.
- Conservative Approach: Don’t use the maximum leverage that is permitted. To minimise risk, start by using less leverage until you are confident in your approach.
- Stop Loss: To protect your capital, a stop-loss order allows you to automatically exit a trade at a set loss level. In margin trading, it is essential to use a stop-loss.
- Monitoring: Especially in times of market volatility, it is essential to give particular attention to your open positions.
- Diversification: Avoid allocating all your margin capital to a single stock or position. By spreading your investments across multiple stocks or sectors, you reduce risk and protect your portfolio from the impact of a single unfavorable trade.
- Manage Your Emotions: Trading on margin can test your emotional discipline. Stay calm, stick to your plan, and avoid taking decisions based on greed or fear.
- Stay Updated: One is required to keep oneself updated about the latest market updates and geopolitical events so that, in case of any negative news, one can exit their position promptly.
- Liquid Stocks: It is always suggested that liquid stocks be used for margin trading, as liquid stocks can be easily bought and sold.
- Interest Rates: Brokers charge interest on the margins; therefore, comparing the interest rates charged by different brokers is recommended to get a better deal.
- Avoid Margin Calls: When the stock price you have purchased falls, your broker will notify you to pay an extra margin. Therefore, one should constantly monitor their trading positions.
Read Also: Margin Pledge: Meaning, Risks, And Benefits
Features of Margin Trading
The important features of margin trading are as follows:
- Leverage: This margin trading feature lets you trade with more money than you have.
- Initial Margin: The initial margin, which is a set percentage of the entire trade value, must be deposited before you can start margin trading.
- Interest Rate: Until the position is closed, you will be liable for paying interest on the money you borrow from the broker.
- Short Term: In order to profit from market volatility, margin trading is commonly used for short-term trades, particularly intraday or swing trading.
- Restricted Shares: Not all stocks are permitted for margin trading. Brokers usually only allow this facility for liquid stocks.
Benefits of Using Margin Trading
The significant benefits of margin trading are as follows:
- Higher Returns: Large positions can be taken on by traders with limited funds. However, it also comes with a higher risk as margin trading increases the buying power of the trader.
- Short Selling: Using margin trading, one can initiate short positions in the futures by paying a limited margin, which allows traders to profit from bearish markets.
- Frequent Trades: In Intraday Trading margin trading is particularly helpful because it enables traders to take multiple positions in a single day and profit from short-term price changes without using up all of their capital.
- Diversification: Margin Trading allows you to spread risk by investing in a number of stocks or industries instead of putting all of your money into one.
Read Also: Lowest MTF Interest Rate Brokers in India
Conclusion
On a concluding note, margin trading is a very effective tool enabling an investor to enhance their return with limited capital. One can increase their purchasing power multifold. However, margin trading comes with various risks; therefore, it requires a disciplined approach, effective risk management, etc. Therefore, it is advisable to first learn about margin trading and consult your investment advisor before initiating any trade in order to avoid losses.
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Frequently Asked Questions (FAQs)
Can I use margin trading in the derivative segment?
Most brokers do not offer margin trading facilities for trading in futures and options.
What will happen if I am unable to fulfil a margin call?
If you are unable to fulfil your margin call, then your broker will automatically square off your position.
What is the full form of MTF in the stock market?
MTF refers to “Margin Trading Facility”. It allows a trader to execute a trade without paying the full value of the trade; only a fixed percentage of the trade value is to be paid by the trader upfront.
Does every broker offer margin trading?
No, not every broker offers margin trading. Therefore, you need to check with your broker whether they offer this facility or not. Pocketful offers its users a margin trading facility.
How long can I hold a trading position made via margin trading?
The holding period depends on your broker policy, so compare the margin trading facility rules of various brokers before selecting a broker.
