A Demat account in itself is a place to keep electronic versions of financial securities. There are two depository institutions in India that handle Demat accounts: National Securities Depository and Central Depository Services. However, not everyone is aware that a Demat account can be used for margin trading which is why i had to put up this article.
I don’t want to assume that everyone reading this blog is already familiar with margin trading, so I think it’s a good idea to refresh your memory on what margin is and what margin trading entails.
So What is Margin?
Given from a finance point of view; Margin is a type of secured debt that allows an investor to increase their purchasing power. The cash and securities in the margin account protect the margin loan, but the brokerage retains the right to seize additional assets, such as cash or stocks held in other accounts, personal assets, and so on, to repay the loan as needed.
Now that we have talked about what is margin in finance terms, Let us quickly take a look at the meaning of margin trading.
What Does Margin Trading Mean?
In the finance term; Margin trading often referred to as “buying on margin,” is a method of borrowing money from your brokerage company and using that money to buy stocks. In layman’s terms, you’re taking out a loan, buying stocks with the borrowed funds, then returning the loan with interest at a later date.
Now that you understand what margin is and what margin trading implies, it’s time to get back to why we’re here in the first place.
Although not everyone is eligible for a bank loan large enough to purchase a stock on the Indian stock exchange, a Demat account eliminates the need to worry about how to buy shares.
As an Indian, you can now purchase that number of shares using the Demat account margin trading function, which has the potential to give you a substantial “Return of Investment” (ROI).
As a trader, you should be aware that Margin funding is a great tool for market participants if appropriately used, as you can boost your investment capacity.
How Does The Demat Account for Trading Works?
Let’s look at the margin trading facility (MTF) with a relatable example.
Let’s say you have Rs.200,000 and want to purchase 200 shares of a company for Rs.1,000 each. You can also use margin trading to increase the size of your position.
This amount can be used as a margin as the appropriate margin rate has been increased to 50%. This means up to 400 shares of the same company can now be purchased for Rs.1,000 each, totaling Rs.4,00,000.
If your trade, on the other hand, has a 50% margin, or Rs 2,00,000. You’ll make Rs 40,000 if the company’s stock price rises to Rs 1100, which is clearly more than 200 shares if you bought them to take delivery. However, no one can overlook the possibility of a price drop. If the stock price falls and you lose money, you’ll have no choice but to cover (square) the transaction.
If you can’t keep the minimum margin trading account balance, you’ll have to sell the shares in your Demat account, and the loss on your sale will be deducted from your margin.
To be certain of what you are going into, make sure to ask your broker about pledging fees when you open a Demat account online.
New Margin Requirements In The Commodity Segment
The markets regulator, the Securities and Exchange Board of India (SEBI), is altering the margin requirements in the commodity category after revising them in the equity segment. The new margin rule in the commodity is targeted at increasing liquidity by restricting brokerages from providing excessive leverage and so protecting ordinary investors from unnecessary risks.
It will be beneficial to hedge positions in both the commodity derivatives and related commodity index futures. As per the new rule, a gross margin benefit of 75% will be allowed on the initial margin. Eligible offsetting positions can take advantage of this new rule.
You invested in MCX NSE 0.32 % Gold contracts and are ready to trade a short position in MCX Bulldex, which tracks gold. Suppose the total margin required is Rs. 80,000, then as per the new margin rule, the applicable margin will be Rs 20,000 only after the discount of 75%.
Benefits of Demat Account for Trading
1. Utility of Stocks.
You can utilize your stocks to fulfill the margin requirements, which was not allowed before reformed margin rules. But, with the implementation of new margin rules, SEBI further toughens the margin norms. Based on the new mandate, a 50% upfront margin is required from March 1, 2021.
2. Account Sharing.
Traders can use shares in their Demat accounts to make margin payments only if such shares are pledged with the stockbroker after a proper client authorization process through email and an OTP. Such a margin system is likely to strengthen risk management that will make the markets more efficient in the long run.
Demat Stocks as a Margin Facts
- To use the margin trading facility, the trader must have a margin trading facility account with the stockbrokers (MTF).
- Margin trading accounts are only available from SEBI-approved stockbrokers.
- To pay margins, you can use existing shares as collateral. If your MTF account is in the red but you have shares in your Demat account to use as collateral.
- Your margin from collateral stock will improve if the equities under collateral appreciate in value. You can use a similar strategy to take other positions on margin.
- The dividend will be credited to your registered bank savings account if you get a dividend on collateral stocks.
Best Margin Trade Practices to Minimize Losses
Margin trading, as previously stated, is a feasible approach for increasing returns while leveraging. However, you must take into account the stock market’s volatility, which makes leveraged positions riskier. As a result, having the necessary understanding to use margin trading is unavoidable.
- Utilize lower than the margin limit provided by your broker
It’s preferable to avoid borrowing the maximum amount allowed, especially if you’re new to margin trading. Inexperienced traders can start with a smaller sum to learn the ropes.
- Make a trade wisely
If you’re considering a margin trade, you should proceed with caution. Margin trading should only be used if a trader has enough capital to satisfy the margin call and bear losses against their position while meeting the margin call. You can only continue to execute a margin trade if you are confident in your trend analysis.
- Settle the margin as soon as possible
Margin trading is similar to taking out a loan and paying interest on it. To avoid accumulating or greater interest amounts, it is always advisable to borrow for a short period of time and close the margin as quickly as feasible.
Conclusion On Margin Trading Through Demat Account
Here you have it proper rundown of margin trading and how your Demat account may be used as a margin trading platform. If you found this post useful, please share it with a friend and use the comment section to share your ideas with us.