Margin equity requirementsTrading on margin involves additional risks and complex rules, so it's critical that you understand the requirements and industry regulations before placing any trades. When you trade on margin, you are essentially borrowing against the value of your securities in an effort to leverage your returns. Show
To remain in the good graces of your brokerage firm, you must meet and maintain certain equity levels, including initial and "house" margin requirements. Most brokerage firms maintain house margin requirements that exceed the minimum equity requirements set forth by regulators. For more on this topic, please read Meeting the requirements for margin trading. If the equity in your margin account falls below your firm's house requirements, most brokerage firms will issue a margin call. When this happens, you will need to take immediate action to increase the equity in your account by depositing cash or marginable securities, or by selling securities. If you fail to act promptly, your broker may go ahead and liquidate shares in your account without any advance notification. In fact, your broker can liquidate your margin account holdings without even issuing a margin call. For this reason, you should monitor the equity levels in your margin account closely to avoid unanticipated liquidations. Margin account trading violationsAlong with strict equity requirements, margin accounts impose additional trading and day trading rules that you need to understand to avoid violations. If you use your margin account to purchase and sell the same security on the same business day, those transactions qualify as day trades. If you execute day trades frequently, it's likely that you will have to comply with special rules that govern "pattern day traders." A pattern day trader is defined as someone who executes 4 or more day trades in a period of 5 business days. The number of day trades must comprise more than 6% of your total trading activity for that same 5-day period. As a pattern day trader, you are limited to trading up to 4 times the maintenance margin excess in your account (also known as exchange surplus), based on the previous day's activity and ending balances. As discussed in Margin requirements for day traders, you must maintain a minimum of $25,000 of equity in your account at all times and some securities are not eligible for pattern day trading. Let's examine 2 of the more common margin trading violations you should understand in more detail. Margin liquidation violationWhat is it? A margin liquidation violation occurs when your margin account has been issued both a Fed and an exchange call and you sell securities instead of depositing cash to cover the calls. If you are a pattern day trader and you sell positions you opened during the same day, you will not incur a margin liquidation violation. However, if you hold the position overnight, your account could be in a Fed and exchange call. Selling your position the following business day would create a margin liquidation violation. The following example illustrates how Justin, a hypothetical pattern day trader, might incur a margin liquidation violation: Margin liquidation example – Justin:
Justin would incur a margin liquidation violation because he was in a Fed and exchange call at the same time and liquidated the position that caused the calls. Consequences: If you incur 3 margin liquidation violations in a rolling 12-month period, your account will be limited to margin trades that can be supported by the SMA (Fed surplus) within the account. This restriction will remain in place for 90 calendar days, or one year from the first liquidation, whichever is longer. Day trade call and liquidationWhat is it? A day trade call is generated whenever you place opening trades that exceed your account's day trade buying power and then close those positions on the same day. You then have 5 business days to meet a call in an unrestricted account by depositing cash or marginable securities in the account. During the day trade call period, the account is reduced to 2 times the exchange surplus from the previous day, with no use of time and tick. The following example illustrates how Julie, a hypothetical day trader, might incur a day trade call. Day trade call and liquidation example – Julie:
Because Julie was using margin buying power and not day trade buying power, this creates a day trade call. Day trade buying power remains fixed and is based on balances from the previous day. It cannot be increased by selling previously held positions. The preferred method for covering a day trade call is to make a deposit for the amount of the call. If this is not possible, Julie does have the option of liquidating positions in her account to cover the call, but such transactions will be considered day trade liquidations. To meet most day trade calls through liquidation, multiply the amount of the call by 4 (or divide by 25%) to arrive at the amount of stock that would need to be sold to satisfy the call. Leveraged ETFs or other securities with higher margin requirements would be based on the amount of the call/exchange requirement. Consequences: Traders are allowed 2 day trade liquidations within a rolling 12-month period. However, if you incur a third day trade liquidation, your account will be restricted. Your day trade buying power will be reduced to the amount of the exchange surplus, without the use of time and tick, for 90 calendar days. After the 90-day restriction period, the rolling 12-month calendar resets. As these examples illustrate, it's easy to encounter problems if you are an active trader and don't fully understand margin account trading rules and how to decipher your margin account balances. That's why it is important to review these rules prior to opening a new position in your margin account. See where you can find account specific details on Fidelity.com to help monitor your margin account Next steps to considerModel hypothetical trades and the impact on margin balances. Quickly and easily enter your order. Understand the advantages and risks of margin borrowing. Margin trading entails greater risk, including, but not limited to, risk of loss and incurrence of margin interest debt, and is not suitable for all investors. Please assess your financial circumstances and risk tolerance before trading on margin. If the market value of the securities in your margin account declines, you may be required to deposit more money or securities in order to maintain your line of credit. If you are unable to do so, Fidelity may be required to sell all or a portion of your pledged assets. Margin credit is extended by National Financial Services, Member NYSE, SIPC. In order to short sell at Fidelity, you must have a margin account. Short selling and margin trading entail greater risk, including, but not limited to, risk of unlimited losses and incurrence of margin interest debt, and are not suitable for all investors. Please assess your financial circumstances and risk tolerance before short selling or trading on margin. Margin trading is extended by National Financial Services, Member NYSE, SIPC, a Fidelity Investments company. 724497.4.0 Your e-mail has been sent. Which of the following are affected when securities are sold in a restricted margin account?Which of the following are affected when securities are sold in a restricted margin account? If securities are sold in a restricted margin account (one that is below 50% margin), the long market value must decline. The proceeds of the sale are used to reduce the debit balance, therefore the debit balance will decrease.
In which of the following accounts would the use of margin always be prohibited?IRAs and custodial accounts prohibit the use of margin, so they must be done in cash accounts. These other accounts can be cash or margin.
Which of the following organizations determines which over the counter securities are eligible for purchase on margin?Which of the following organizations determines which OTC securities are eligible for purchase on margin? The Federal Reserve Board determines whether any security is marginable.
Which of the following securities Cannot be purchased on margin?Only closed-end funds trade in the market like any other stock, so they are marginable. However, UITs, face amount certificates and open-end funds are all redeemable securities sold under a prospectus - there is no trading and they cannot be purchased on margin.
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