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Types of Margin Accounts: Requirements & Characteristics

Instructor: Bianca Ince

Bianca has FINRA Series 7, 63, SIE licenses and has licensing program at her firm for 5+ years.

In this lesson, we will take a tour through the world of margin accounts, exploring the types (portfolio and day trade), requirements, and the regulations governing them. We'll go over pattern-day traders and non patter-day traders as well.

Margin Accounts

Brooke wants to make money trading in the stock market but she don't have enough cash. What if she could use someone else's money to buy stock? Sounds like a fantasy right? Nope - it's possible!

Welcome to the world of margin accounts! A margin account is a type of brokerage account in which the broker extends a line of credit that can be used to purchase stocks or other types of securities.

As an investment professional, you will regularly work with clients that trade on margin, so it is important that you understand how margin works. Let's go over them, as well as any applicable regulations.

Types of Margin Accounts

Trading on margin can be very risky, resulting in Brooke owing more for the securities than what was originally borrowed. For this reason, margin accounts are only appropriate for experienced investors that understand the risk involved.

There are two primary types of margin accounts:

  1. Portfolio margin involves consolidating positions to reduce the account's overall risk level. This type of margin account is permitted on derivatives accounts, which are accounts in which an investor holds credit swaps, futures contracts, and/or options positions. The overall account risk is lowered by the consolidating or netting of positions.

  2. Day trade margin involves buying and selling the same securities multiple times throughout the day. The goal is to lock in a profit from the price movement of the stock. Day trading on margin is very risky since it is dependent on price fluctuation during a single day. Unfavorable changes in the market can result in dramatic losses for the investor. Since the securities were purchased on margin, the investor can end up owing a lot more than the securities are worth.

Margin Requirements

Portfolio Margin Requirements

The Securities Exchange Commission (SEC) has set the following requirements for portfolio margin accounts:

  • Brokers must use criteria specified by the SEC to evaluate customers' suitability for uncovered short-option transactions.
  • A minimum equity position must be maintained.
  • Brokers must monitor, report, and increase the margin requirements for accounts with a higher concentration of individual securities.

There are lower margin requirements for hedged or netted positions.

Day Trade Margin Requirements

Investors with a day trade margin account can be classified as pattern-day traders or non-pattern traders. Dave is a pattern-day trader, meaning he executes four or more day trades in five business days. He must meet at least one of the following:

  • The number of day trades is more than 6% of total trades in a margin account during the same five-day period.
  • He indulges in two unmet day trade calls within a time span of 90 days.

In contrast, Pam is a non pattern-day trader, so she engages in day trading activity only occasionally. If a pattern day-trade account has not engaged in day trading during a consecutive 60-day period, the account can be converted to a non-pattern-day trade account. The margin requirements for day trade accounts are:

  • Investor must deposit enough cash or eligible securities that meet the initial margin requirement.
  • Minimum equity is $25k or 25% of the account's total market value, whichever is higher.
  • Account minimum equity is only $2k.
  • Minimum amounts must be maintained every day. If the account falls below, further trading is not permitted until the minimum amount has been met.

Regulations Governing Margin Accounts

Let's review some of the key regulations required for margin accounts for Brooke and her broker Jim.

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