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What Is a Debit Balance?
Let me explain what a debit balance means in the context of a margin account. It's simply the amount of money you, as a brokerage customer, owe your broker for the funds you've borrowed to buy securities on margin.
Key Takeaways
You need to know that the debit balance tracks how much you owe your broker for borrowed funds used in securities purchases. Remember, there are two main types of trading accounts: cash accounts and margin accounts. In a cash account, you're limited to using only the cash you have available for buying securities, whereas a margin account lets you borrow from the broker to buy more. This borrowing, known as leveraging, can boost your profits but also magnify your losses. Financial regulations set limits on how much you can borrow initially and require you to maintain a certain equity level, called the maintenance margin. If you fall short on that, you'll face a margin call.
How a Debit Balance Works
When you buy on margin, you're borrowing funds from your broker and combining them with your own money to purchase more shares, aiming for bigger profits if things go right—this is leveraging your position. The primary brokerage accounts for trading are cash and margin types. With a cash account, you can only spend what's in your deposit; for instance, if you have $2,000, that's your limit unless you add more funds.
A margin account changes that by allowing you to borrow money from the broker for extra shares or even borrow shares for short sales. To do this, you pledge your existing cash or securities as collateral. Take an example: if you have $2,000 and want to buy $3,000 worth of shares, your broker might lend you the remaining $1,000, creating a $1,000 debit balance.
What Is an Adjusted Debit Balance?
An adjusted debit balance is what you owe the brokerage after subtracting profits from short sales and any balances in a special memorandum account (SMA). This figure shows you exactly how much you'd need to pay if a margin call hits, which happens when your account value drops below a required level, often due to falling security prices.
Under Regulation T from the Federal Reserve, you can borrow up to 50% of the securities' purchase price as initial margin. You also must maintain equity in your account, calculated by subtracting what you owe from the value of your cash and securities. The industry standard for maintenance margin is at least 25% of the securities' market value, though your broker might demand more.
Do Brokers Charge Interest on Your Debit Balance?
Yes, brokers do charge interest on the money they lend you. I recommend you ask about the interest rate—whether it's fixed or variable—before diving into margin trading. This interest will eat into any profits from your trades.
What Is a Special Memorandum Account?
A special memorandum account (SMA) works alongside your margin account to hold any excess margin beyond what's needed for maintenance requirements. It keeps your gains intact and acts as a credit line for future margin purchases. In a margin call, it can help offset drops in your securities' value.
What Happens in a Margin Call?
A margin call triggers when your account dips below the broker's maintenance minimum. You'll need to add cash or securities to meet the requirement, usually within two to five days. If you don't, the broker can sell your securities to cover it. As the SEC points out, brokers aren't always required to issue a call and might sell your assets without warning or waiting, per your margin agreement.
What Are Marginable Securities?
Marginable securities include stocks, bonds, and others that you can buy on margin or use as collateral. Your broker decides what's marginable; if something isn't, you can still buy it but must pay fully with cash.
How Can You Avoid a Margin Call?
To steer clear of a margin call, maintain a healthy cash buffer in your account and check it regularly to ensure you're above the maintenance margin. Alternatively, stick to a cash account and avoid margin altogether.
The Bottom Line
In summary, a debit balance is what you owe your broker for margin purchases. If it grows too large compared to your account's equity, a margin call could follow. If you have a margin account, monitor your equity closely and be ready to add funds if necessary.
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