Margin Accounts
Now that you understand cash accounts where customers pay in full, margin accounts introduce borrowing, allowing customers to leverage their investments using the broker-dealer's money.
How Margin Accounts Work
- A margin account allows customers to borrow money from the broker-dealer to purchase securities
- The purchased securities serve as collateral for the loan
- Requires a separate margin agreement with three components:
| Component | Purpose | Required? |
|---|---|---|
| Credit agreement | Establishes the terms of the loan and the interest rate | Yes |
| Hypothecation agreement | Pledges the customer's securities as collateral for the loan | Yes |
| Loan consent form | Allows the broker-dealer to lend the customer's securities to others | No (optional) |
Exam Tip: Gotchas
The loan consent form is optional, not required. Exam questions may try to present it as mandatory.
Key Margin Regulations
Margin accounts are governed by multiple regulators:
| Regulator | Requirement | What It Controls |
|---|---|---|
| Federal Reserve Board | Regulation T | Initial margin requirement (50%) |
| FINRA | Maintenance margin | Minimum equity that must be maintained (25%) |
| Broker-dealer | House requirements | Can be higher than FINRA minimums, never lower |
Exam Tip: Gotchas
Regulation T sets the INITIAL margin requirement (50%). FINRA sets the MAINTENANCE requirement (25% minimum). These are different requirements set by different regulators. The exam loves to test which regulator controls which requirement. Firms can set "house" requirements higher than the FINRA minimum but never lower.
Key Margin Terms
| Term | Definition | Key Detail |
|---|---|---|
| Initial margin | Minimum equity the customer must deposit | Currently 50% of the purchase price |
| Maintenance margin | Minimum equity that must be maintained | 25% for long positions |
| Margin call | Demand for additional funds or securities | Triggered when equity falls below maintenance |
| Debit balance | The amount borrowed from the broker-dealer | Remains fixed unless repaid |
| Equity | Market value minus debit balance | What the customer actually "owns" |
| Buying power | Maximum amount the customer can purchase | Based on available excess equity |
Margin Account Example
Here is how margin works in practice:
- Customer buys $20,000 of stock on margin
- Deposits $10,000 (50% initial margin)
- Debit balance = $10,000 (borrowed from broker-dealer)
- If stock drops to $12,000:
- Equity = $12,000 - $10,000 = $2,000 (16.7% of market value)
- This is below the 25% maintenance requirement
- A margin call is triggered; the customer must deposit additional funds or securities