Margin trading best practices
Margin trading is the practice of borrowing money from a brokerage to trade in stocks, using other stocks held in your account as collateral. The amount of equity that you contribute to the investment is called the margin deposit, and you need to maintain a minimum margin requirement at all times.
Margin trading entails additional risks associated with market volatility. When the price of a stock is rising, trading on margin allows you to use leverage to increase gains. However, when stock prices fall, losses can mount quickly. If you decide to buy on margin, take a careful, disciplined approach, and keep these best practices in mind:
Maintain a margin buffer in your account
Don't be fully leveraged — try to keep your margin well above the broker's requirement. For example, if the required margin is 50%, try to keep enough cash or margin-eligible securities in your account to maintain the margin at 60% or more. That minimizes the chance of a margin call.
Maintain a diversified portfolio
Maintaining a diversified portfolio in your margin account reduces the risk that a single security's drop in value will trigger a margin call.
Monitor your positions
If the markets become uncertain or negative, vigilantly monitor your margin positions.
Consider using stop-market or stop-limit orders
Stop-market and stop-limit orders can be used to restrict potential losses.
A stop-market order will automatically trigger the sale of your shares once the share price falls to a pre-set level — the stop price. The order is filled at the market price.
In the case of a stop-limit order, you set two prices: the stop price and the limit price. Once the share price falls to the stop price, the order is converted to a limit order. Your shares will be sold only at your specified limit price or better.
Take time to educate yourself before using stop-market and stop-limit orders, so that you understand the potential consequences. For example, stop-market orders will not necessarily limit your losses to the stop price: in a volatile market, your actual sale price could be well below your stop price. In a stop-limit order, it may not be possible for the broker to execute the order before the price falls below your limit price. Also keep in mind that in volatile markets, stock prices can fall quickly but then recover quickly. In that case, using a stop order could cause you to sell at a loss and miss out on the recovery.
For help with margin accounts or margin trading with Qtrade Investor, please speak to one of our investment representatives.