Below is a glossary of terms that are used in the online trading industry. Select the first letter of the word you are seeking from the list above to jump to the appropriate section of the glossary.
What is a Margin call?
If a trader or investor has an account that has fallen below the brokerage’s minimum margin requirement, then the brokerage can place a margin call on the account, in which case the investor would have to either deposit additional funds into his account, or sell off some of the shares he is holding for which he took a loan in order to invest to begin with. Barring that, the brokerage has the authority to sell some of the investor’s shares, even without his permission, to make up the difference.
For example, if a trader wishes to purchase 500 shares of a stock that costs $50 per share. If the trader does not have the $25,000 necessary to purchase those shares, he may put up half of the amount from his own equity, and borrow the other half from the brokerage. Most brokerages require a maintenance margin of 25%, which is to say that the equity value – the amount that the trader put up for the shares, must be at least 25% of the total value of the shares. If the stock proves to be a wise investment, and increases in value, the investor can earn a tidy sum, and repay his loan to the brokerage. However, imagine the value of the stock falls to $30 – the initial investment of $25,000 is now worth only $15,000. The amount loaned by the brokerage remains the same, but the equity invested by the trader is now worth only $2,500, which is below the maintenance margin of $3,750 (25% of the current $15,000 value).
Now, the brokerage can ( and likely will) make a margin call, requiring the trader to either deposit additional funds into the account, or sell off whatever percentage of the shares would be needed to bring the account to within the range of the maintenance margin.
How do margin calls affect forex traders?
Forex and CFD traders often invest on margin, or leverage, thus enabling them to see higher earnings on their initial investments. However, when their investments fall short of expectations, they need to be aware of the maintenance margins, and the potential consequences on their holdings.