Margin trading is the practice of investing with borrowed money. It is a high-risk strategy and should only be conducted by experienced investors, which is why most brokerages require you to apply for special permissions for a margin account. If you are interested in opening a margin account with Schwab as your broker, here’s what you need to know. And if you want more help building an investing strategy aligned with your goals, consider working with a financial advisor.
Pros and Cons of Margin Trading
The advantage of margin trading is amplifying gains. A margin account is a loan from your brokerage that allows you to buy more assets than you otherwise could. The brokerage charges interest for this loan and sets the terms for repayment. Ideally, you will sell the assets for a profit and use that money to repay your loan.
However, you must repay a margin loan regardless of how the investment performs.
Margin trading is potentially useful if you can afford to repay the loan with cash you already have, have but would like to reserve it for other reasons. For example, if you have accounts that earn more interest than the margin loan charges, this can be a wise way to prioritize cash flow. However, it can be a bad idea to trade on margin if you’re cash-strapped. Taking on too much debt is called being over-leveraged, and it can lead to financial disaster.
Requirements to Open a Schwab Margin Account
The procedure for opening a margin account with Schwab is similar to adding any other feature to your portfolio. First, you must have a brokerage account with Schwab. This will allow you to trade securities through the online portal.
Then, under the Account Settings option, you will find a section for Options & Margins. The system will then tell you whether your account is eligible for margin trading. If so, you can choose to add this feature. Schwab will review your account and, if you are approved, you can begin to borrow money for trading with no further process.
Typically, the only requirement to add margin borrowing is that you have at least $2,000 in cash or marketable securities in the underlying account. If you do not have these assets, Schwab will not approve your application.
Making Margin Trades With Schwab
While the requirements to open a margin account with Schwab are relatively light, the requirements to conduct margin trading are more in-depth.
You can only trade eligible securities with margin loans. In general, margin trading on Schwab is restricted to stocks, exchange-traded funds (ETFs), exchange-traded notes (ETNs), bonds and mutual funds. This can also include options contracts related to the underlying assets. However, individual securities within these asset categories may not be permitted.
You can also only borrow so much money to make margin trades. The loan limit is typically 50% of the investment’s value. For example, if you wish to buy $1,000 worth of eligible stock, you could borrow up to $500 on margin. You’ll need to provide the rest of the cash yourself. For higher-risk assets, Schwab may require higher initial values or more matching equity in your portfolio.
Talk to a financial advisor about an investment strategy that fits your risk tolerance and goals.
Schwab’s Margin Maintenance Requirements
When you trade on margin, the investment that you purchase serves as the loan’s collateral. As a result, you must maintain a minimum amount of value in the margin account to secure this loan. This is known as your maintenance requirement.
An asset’s initial requirement and its maintenance requirement are different. Generally speaking, Schwab requires a maintenance value of between 30% and 50% of the total investment. You can meet this requirement either with cash or with equity in marketable securities. The exact maintenance requirement depends on the nature of your assets and portfolio. The more speculative your investments and the less diverse your margin portfolio, the higher your maintenance requirements may be.
For example, imagine that you purchased $1,000 worth of stock with $500 of borrowed money. Your account would have 50% equity since you purchased half with your own money and half with the loan. If the value of your investment dipped to $900, your equity would slip to 45%. The total value of what you actually own is $400 while you still owe the $500.
If the value of your assets drops below the account’s maintenance requirements, Schwab may require you to add more value in either cash or assets. Failing that, it may issue a margin call in which the broker sells off your investments and, if necessary, bills you for any remaining debt.
Opening a margin account with Schwab is a simple process. If you have an account with the brokerage, the application for margin trading is available in your account settings. You must hold at least $2,000 in cash or marketable equities and meet maintenance value requirements while you trade.
Margin Trading Tips
A financial advisor can help you determine whether margin trading or other investing strategies are suitable for you. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
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