While margin loans offer access to additional funds and the potential for increased investment returns, they're characterized by unique risks associated with market movement and your account activity. It's important to evaluate your risk tolerance carefully when determining whether margin fits into your financial strategy. Some of the primary risks you'll need to consider include:
1. Amplified Losses Due to Increased Leverage – The primary appeal of margin is that it allows you to increase your exposure to the market, which can lead to greater returns than you would be able to achieve using only the cash you have available. The downside to increased market exposure is that a decrease in your investments can amplify your losses. When a loss occurs, you're responsible for repaying the funds you borrowed on margin, plus interest, on top of the loss.
2. Maintenance Calls –Scottrade requires you to maintain a minimum equity level in the form of cash or eligible securities in all margin accounts. This is called the maintenance requirement. If you fall below the maintenance requirement, Scottrade will issue a maintenance call that requires you to sell securities, deposit cash or deposit additional eligible securities until your account meets the minimum equity requirement again.
It's important to realize the market value of securities can change quickly and the minimum equity requirement for your account will fluctuate as those changes occur. Each security may be subject to a different maintenance requirement, so please use our margin requirements table to determine what equity levels are required for your positions.
3. Fed Calls – The requirements for the initial purchase of securities using borrowed funds are typically higher than the maintenance requirements. When you don't meet the initial requirements for a purchase made on margin, a Fed call is issued. Each security may be subject to a different initial requirement, so please use our margin requirements table to determine the equity levels required for your purchase.
4. Forced Liquidation – If you're unable to meet a margin call for any reason, Scottrade may sell some or all of your securities to bring your account back up to the minimum equity requirement. Scottrade makes every possible effort to notify you when a margin call has been issued and work toward a resolution in a timely manner. However, if we're unable to reach you, Scottrade may proceed with the sale of any securities you hold without your prior approval in order to meet the margin call.
5. Margin Interest –You're responsible for repaying the interest on your margin loan regardless of any changes in interest rates that occurred during the time your loan was outstanding or changes in the market value of the securities you bought on margin.
Read 4 Tips for Managing Margin Risk to learn about ways you can address margin risk in your portfolio.