Margin trading in a bullish market
About this lesson
In this video, we will discuss the bullish market, how margin trading works in the bullish market, and what a margin call is. Using a numeric example, I will also show how return on investment in margin trading is calculated and, more importantly, when an investor receives a margin call.
Margin in a bull market
In a bull market, prices are rising and investors are optimistic. Buying on margin lets you hold more stock than your own money allows, so your gains grow faster than the stock’s. But if prices turn, losses grow faster too.
Return on a margin purchase
Return = (Ending equity − Initial equity − Interest) ÷ Initial equity
Example: buy 200 shares at $100 ($20,000) with $12,000 of your own money and an $8,000 loan at 9% interest. If the price rises to $130:
- Value = 200 × $130 = $26,000
- Equity = $26,000 − $8,000 = $18,000
- Return = (18,000 − 12,000 − 720) ÷ 12,000 = 44%
The stock rose 30%; your money rose 44%.
The margin call
If prices fall, your equity shrinks. When the margin drops below the maintenance margin, the broker issues a margin call: add cash or securities, or the broker sells some of your holdings.
At what price?
Set the margin equal to the maintenance level and solve for the price P:
(200P − 8,000) ÷ 200P = 0.30
200P − 8,000 = 60P → 140P = 8,000 → P = $57.14
If the stock falls below about $57, you get a margin call.
General formula
P = Loan ÷ [Shares × (1 − Maintenance margin)]
= 8,000 ÷ (200 × 0.70) = $57.14
Keep in mind
- The more you borrow, the closer the margin-call price is to today’s price.
- In a fast-falling market, the broker can sell your shares without waiting for you.
- Interest costs reduce returns every year you hold the loan.
This lesson is for education only and isn’t investment advice.