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Margin Accounts Calculations and Solutions

We have discussed before what a margin account is. In a margin purchase, the portion of the value of an investment that is not borrowed is called the margin. The portion that is borrowed incurs an interest that is based on the broker’s call money rate, which is the rate brokers pay to borrow bank funds for lending to customer margin accounts. Here are a few case scenarios of margin accounts calculations:

Example 1: The Account Balance Sheet

You want to buy 1000 TechnologySage shares at $24 per share. You put up $18,000 and borrow the rest.

Solution

Amount borrowed = $24,000 – $18,000 = $6,000

Margin = $18,000 / $24,000 = 75%

ASSETS                                                 LIABILITIES AND ACCOUNT EQUITY

1000 WM shares  $24,000                     Margin loan  $  6,000

Account equity  18,000

 Total  $24,000                           Total  $24,000

In a margin purchase, the minimum margin that must be supplied is called the initial margin. The maintenance margin is the minimum margin that must be present at all times in a margin account. When the margin drops below the maintenance margin, the broker may demand for more funds. This is known as a margin call.

Read also: Choosing A Broker And The Broker Customer Relationships

Example: Margin Requirements

Your account requires an initial margin of 50% and a maintenance margin of 30%. Stock A is selling at $50 per share. You have $20,000, and you want to buy as much of stock A as you possibly can.

Solution:

You may buy up to $20,000 / 0.5 = $40,000 worth of shares.

ASSETS                                                 LIABILITIES AND ACCOUNT EQUITY

800 A shares  $40,000                                 Margin loan  $20,000

Account equity  20,000

Total  $40,000                                                Total  $40,000

Example: Margin Requirements

After your purchase, the share price of stock A falls to $35 per share.

ASSETS                                                 LIABILITIES AND ACCOUNT EQUITY

800 A shares  $28,000                                    Margin loan  $20,000

Account equity  8,000

Total  $28,000                                                    Total  $28,000

New margin = $8,000 / $28,000 = 28.6%  which is less than maintenance margin of  30% Therefore, you are subject to a margin call.

In conclusion, Margin is a form of financial leverage. It is important to bear in mind that when you borrow money to make an investment, the impact is to magnify both your gains and your losses. You should therefore deal with margin accounts with caution.

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