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Margin trading is a facility under which you buy stocks that you can’t afford. You are allowed to buy stocks by paying a marginal amount of the actual value. This margin is paid either in cash or in shares as security. Margin trading can be considered leveraging positions in the market either with cash or security by investors. Your broker funds your margin trading transactions. The margin can be settled later when you square off your position. You make a profit when the profit earned is much higher than the margin, else you suffer a loss.
Until last year, the margin trading was allowed only with cash and providing shares as collateral was not allowed. The Securities and Exchange Board of India (SEBI) recently relaxed this criterion by allowing investors to create positions under the margin trading by furnishing shares as security.
You need to have a margin account with the broker to avail the margin trading facility (MTF). The margin varies across brokers. You are supposed to pay a certain sum (minimum) at the time of opening the MTF account. You are required to maintain a minimum balance at all times. If you fail to maintain the minimum balance, then your trade gets squared-off. The squaring-off position is compulsory at the end of each trade session.
Mutual fund units cannot be bought through margin trading because of their trade mechanism. Mutual fund units are not sold like stocks. Investors buy and redeem mutual fund units through mutual fund houses. Fund prices are determined only when the market closes after each working day. It is because of this restriction that it is not possible to margin trade mutual funds.
Margin trading increases investors’ purchasing power. However, it can lead to magnified losses if things don’t go in your way. You have to be extremely careful when trading marginally.