If you’re in the market for a stock, you may have heard about a “margin call.” This is when your brokerage firm calls you to deposit additional funds to cover the credit risk of your purchase. While this is common, it’s best to avoid this if possible. In times of market volatility, you may be required to make margin calls. If you receive a margin call, here are some tips to respond.
Diversify your portfolio to avoid margin calls
Diversifying your portfolio can help minimize the risk of margin calls and keep your account balance at a comfortable level. A diversified portfolio has multiple asset classes and can help you avoid extreme price swings. Moreover, diversifying your portfolio can help you stay informed of your portfolio’s condition and avoid being surprised by a margin call.
As with other financial instruments, diversifying your portfolio is an essential element of risk management. It can lower your overall risk, reduce the possibility of an unexpected drop in the value of a security, and increase your margin balance. Besides, diversified portfolios also allow you to earn sufficient returns in the short-term. Moreover, if your portfolio includes short-term assets that have high returns potential, you can earn enough profit to pay off your margin loan and continue to invest.
Besides diversifying your portfolio, you should also be aware of the risks associated with margin trading. These risks include selling your investments or even liquidating your entire account. Thus, you should always keep extra cash in your margin account and monitor your positions regularly. Alternatively, if you do not want to borrow money, you can always forgo margin trading altogether and purchase your securities using your cash.
The downside of using margin to trade stocks is that you must be able to repay your margin loan. However, this risk is only worthwhile when the value of your securities increases enough to cover your margin loan. If you don’t have enough money to pay the loan, you may have to sell your holdings or close your margined position.
Avoid margin calls in periods of extreme market volatility
If you have a margin account, one of the best ways to avoid margin calls is to have a large amount of cash on hand. This extra cash will offset the effects of extreme volatility in the market, which can cause margin calls. You should monitor your account daily to ensure that it is in compliance and maintain additional funds in case the situation arises.
The risk of getting a margin call is higher in volatile markets, because the broker-dealer is trying to limit the risk by calling in your margin loan. It is a risky practice to buy securities on margin, and it is not recommended for long-term investors. When your account equity falls below the required maintenance margin, a margin call will trigger. This usually happens during periods of extreme market volatility.
When you receive a margin call, the broker will either give you time to raise additional funds or immediately liquidate your investments in order to cover the shortfall. In some cases, he may also sell your securities to cover the shortfall, without your consent. This depends on the contract you signed with your broker when you opened your account.
When this happens, it is best to avoid margin trading completely and to pay close attention to your account. If you miss a margin call, you could be sued by the brokerage and lose your account. The simplest way to avoid a margin call is to avoid opening a margin account. This is one of the riskiest methods of investing, since it amplifies your losses when things go wrong.