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What is margin trading & How does it work?

Margin trading is when you pay only a certain percentage, or margin, of your investment cost, while borrowing the rest of the money you need from your broker.

Margin trading allows you to profit from the price fluctuations of assets that otherwise you wouldn’t be able to afford. Note that trading on margin can improve gains, but increases the risk and size of any potential losses.

But what is the margin in trading? There are two types of margins traders should be aware of. The money you need to open a position is your required margin. It’s defined by the amount of leverage you are using, which is represented in a leverage ratio.

There are also limits on keeping a margin trade running, which is based on your overall maintenance margin – the amount that needs to be covered by equity (overall account value).

Brokers require you to cover your margin by equity to mitigate risk. If you don’t have enough money to cover potential losses, you may be put on a margin call, where brokers would ask you to top up your account or close your loss-making trades. If your trading position continues to worsen you will face a margin closeout.

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