Stock Margins Can Make or Lose You A Lot of Money
The initial cause of the Great Depression and stock collapse of October 1929 was all the stock that had been purchased on margin. When the stock prices fell many of the people who had purchased on margin could not cover the margin calls and went bust. That of course was before the financial controls imposed by the government in today’s market and theoretically that situation could never happen again although many of those who lost money in the past year may disagree. You can still buy stock by putting only a portion of the cost in hard cash down with the balance being covered by your credit standing and therefore on margin.
Just Pay For the Stock You Buy
When you buy stocks outright you pay for your stocks at the time you purchase them. For example, you may purchase one hundred shares of stock at fifty dollars per share costing you five thousand dollars. It is over and done, you own the stocks, and they are free to earn you the money instead of earning someone else money. Since most brokerage firms require you to have a minimum equity of two thousand dollars to begin with before buying on margin, it simply makes sense to drop the number of shares you purchase and own them outright.
You Know It’s a Sure Thing and Want 10,000 shares rather than 1,000
In the margin situation the brokerage house is basically acting as a bank and loaning you the money to purchase the stock. All this is done only on paper of course. If for any reason you don’t keep up with the interest payments the broker merely will take the ownership of the stock back, and you may still owe them money, even if the stock did go up. There is very little risk for the brokerage, although many did lose a lot of money in the recent stock market crash. However, even with that most of the money lost was not from marginal stocks but from more exotic forms of investment.
Knowing the Stocks you Buy
If your interested in margins the best advice is to know your stocks. One bad bet can cost a lost of money. Conversely, it can make you a bundle. History can help with a stocks’ rises and falls but circumstances of a particular day can affect a solid stock to a great extent. Think what would happen to the health insurance provider’s stock if the government announced universal health care for the citizens of the United States. Everything affects the stock prices – politics, weather, the moods of the people. When a few of the banks borrowed from the government most bank stock whet down, even if they were not borrowers from the fed.
So Which Way Should You Go?
Basically, buy with cash if you can. When a special situation arises where you are sure of the stock health and “know” it will rise buying on margin can net you some super profits without a big cash outlay. You will of course still be limited by the equity you have in your brokerage account. Unless you are wealthy, or have great credit at a bank they won’t lend you money to buy a stock so the broker is normally the only avenue available. Another “trick” used by savvy investors is to use the 7 day payment period used by most brokers. You can buy the stock today and wait a few days to pay, or just sell it before the payment is due. Then any profit is yours without interest – that is if the stock goes up. If the price falls the purchase price is still due, so be sure you have a backup if you are using this plan.