Understanding Trading Accounts
Let me tell you directly: a trading account can be any investment account that holds securities, cash, or other holdings. Most often, when people talk about a trading account, they're referring to the primary account used by day traders. These are investors who buy and sell assets frequently, often within the same trading session, and because of that, their accounts face special regulations. The assets in these accounts are kept separate from those in long-term buy-and-hold strategies.
How a Trading Account Works
You should know that a trading account can hold securities, cash, and other investment vehicles, just like any brokerage account. This term covers a wide range, including tax-deferred retirement accounts. What sets a trading account apart is the level of activity, its purpose, and the risks involved. Typically, the activity here is day trading.
The Financial Industry Regulatory Authority (FINRA) defines a day trade as buying and selling a security on the same day in a margin account. They label pattern day traders as those who make at least four day trades over a five-day week, or whose day-trading makes up more than 6% of their total activity in that week. Brokerage firms might also identify you as one based on your history or other reasons. You can open cash or margin accounts, but day traders usually go for margin. FINRA has special margin rules for pattern day traders.
To open one, you'll need to provide minimum personal info like your Social Security number and contact details. Depending on where you are and the firm's policies, there might be more requirements.
FINRA Margin Requirements for Trading Accounts
Be aware that maintenance requirements for pattern day trading accounts are higher than for non-pattern ones. The Federal Reserve Board's Regulation T sets base requirements for all margin investors, but FINRA adds more in Rule 4210 for day traders.
As a day trader, you must keep a base equity of $25,000. This lets you have purchasing power up to four times any excess over that minimum. Equity from non-trading accounts doesn't count. If you fall short, your broker will issue a margin call, and if you don't cover it in five days, your trading gets restricted.
Opening a Trading Account
If you want to open a trading account, go to your chosen brokerage or investment firm, fill out an application with your personal info, and fund it. For margin trading, you'll need to agree to the margin terms, meet initial and house margin requirements, and follow all regulations.
Disadvantages of a Trading Account
You face risks with a trading account that aren't in regular cash brokerage accounts. Trading on margin amps up your loss potential due to leverage, and you might pay interest on borrowed funds. As a day trader with margin, you could get margin calls and have securities liquidated.
Safety of Keeping Money in a Trading Account
Yes, it's generally safe to keep money in a trading account. Reputable brokerages offer SIPC insurance up to $500,000, which protects against firm failure, not investment losses.
The Bottom Line
You need a trading account to buy and sell securities. Open one with your brokerage, but for margin and day trading, meet the requirements. Pattern day traders must maintain $25,000 equity per FINRA rules.
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