Margin Accounts

Margin accounts allow you to do just what I told you not to do with credit cards – borrow money to buy stocks, although under much more favorable conditions.
A margin account allows you to borrow up to 50% of the value of the stock from your broker when you make a purchase. For example, if you want to buy $10,000 of stock, you could write a check for $10,000 or with a margin account, write a check for $5,000, and borrow $5,000 from your broker.

By borrowing one-half the value of the stock, you can multiply your profits dramatically. Here’s how that works: If the price of the stock doubles to $20,000, your investment in the margin account ($5,000) has actually increase four fold.

With a margin account, you can make your money work harder, also known as using leverage and own more stock. However, there is risk. If the value of the stock falls instead of rises, your broker will issue a “margin call.” A margin call usually comes when the value of the stock falls below the value of the money lent to you by the broker. However, some brokers may have different thresholds for margin calls.

When you get a margin call, you have two options: You can deposit cash into the account to raise the value above the amount you borrowed or you can sell the stock immediately and pay off the loan. Some brokers may not give you the option of depositing cash, they may liquidate your position for you when the stock falls below a certain price.

Discretionary Account

Discretionary accounts give a broker or financial adviser the right to buy and sell stock without notifying you. If a broker wants this authorization, go find another broker. Unless you trust a broker or financial adviser with your life, never give anyone this type of control over you finances – it is the equivalent of a blank check.
There are circumstances when these types of accounts are appropriate; however, for most of us they are not only inappropriate, but also hazardous to our financial well-being.