What Is Liquidation Margin?
Let me explain liquidation margin directly to you as a trader or investor. When you buy securities on margin, you're essentially borrowing to get more shares than you could with just cash, which can amplify your profits if the stock rises since you hold more. But if the price drops, your losses can exceed your initial investment, and that's where things get risky.
The liquidation margin is simply the total value of everything in your margin account— that includes your cash deposits and the current market value of any open long or short positions. If you let this value dip too low, your broker will hit you with a margin call, and they might even liquidate your positions to cover it.
Key Takeaways
Here's what you need to remember: Liquidation margin is the up-to-date value of your margin account, factoring in cash and the latest prices of your positions. If it gets too low, expect a margin call from your broker. You can fix this by adding more cash or other collateral to bump up that margin level.
Understanding Liquidation Margins
Margin trading means borrowing money from your broker to make leveraged trades, like buying stocks. For short selling, you're borrowing the securities themselves from the broker's stock, selling them, and hoping to buy back cheaper later.
As an investor using margin, you have to keep the total account value— that's the liquidation margin based on market prices— above a minimum level. Imagine you've made some leveraged stock buys, and they start losing value; your liquidation margin drops. If it keeps falling, your broker can issue a margin call, forcing you to add collateral, usually more cash, to raise the margin back up and lower the risk.
Types of Liquidation Margins
If you're holding a long position, the liquidation margin is what you'd get if you closed it out right now. For a short position, it's what you'd owe to buy back the security.
Example of a Liquidation Margin
Take Sarah, a margin trader who puts $10,000 into a stock with 100% leverage, using 2:1 ratio after paying the margin interest. If the stock rises, she might hold $20,000 worth, but her liquidation margin is still $10,000— that's what she'd pocket if she closed the account.
Now, if the stock drops 25%, with her leverage, she loses 50% of her original investment. Her account's liquidation margin falls to $5,000, even though she controls $15,000 in stock. If equity drops below the broker's requirements, a margin call comes, and you need to add cash or sell securities to boost it. But watch out: selling the next day without depositing cash first could trigger a margin liquidation violation, which happens if you delay sales after getting both Federal Reserve and exchange calls.
What Does Liquidation Mean?
Liquidation is straightforward— it's converting your assets into cash or liquid forms.
What Happens When Margin Is Liquidated?
If you get a margin call and can't provide the funds, your broker might sell off your holdings until the call is satisfied.
What Is Margin Liquidation Level?
The point where liquidation kicks in varies by broker and depends on your account's assets— riskier ones might have tighter margins. Check your broker's site for details, and many offer tools like Fidelity's Margin Calculator to track this.
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