Margin loans are a type of loan that allows you to borrow money against the value of your stocks and other securities. Margin lending can be used for a variety of purposes, including buying more stock or paying off existing loans. While they have their uses, margin loans also come with some potential pitfalls. What Are Margin Loans?
What are margin loans?
You might be familiar with margin loans if you’ve ever used a credit card. If you have a credit card, then you’re aware that it’s possible to pay less than the full amount due on your bill each month—and why? Because the money required to cover those charges is backed by collateral. In other words, you’ve pledged your credit card as collateral for your debt.
This principle is similar when it comes to margin loans: They’re basically like any other loan—except instead of taking out a loan from a bank or another financial institution, you take out a loan from yourself by pledging securities (stocks or bonds) as collateral against your debt.
How do margin loans work?
Margin loans work by allowing you to borrow money from your broker. You can borrow up to 50% of the current value of a stock that you own and use the funds for any purpose, including buying more stocks or paying off other debts.
As per SoFi norms, “All eligible members pay a 4.5% annual interest rate (one of the most competitive rates out there) on margin loans.”
The key benefit of margin lending is that it enables investors to buy more stocks than they might normally be able to afford by using other people’s money.
The downside is that margin lending can be risky because there is no guarantee that the value of your stock holdings will rise over time; if they do not grow as quickly as expected, then you will end up owing more on your margin loan than what it was originally worth—which means taking a loss on top of missing out on potential profits.
When is a margin loan inappropriate?
If you don’t see yourself paying off your home loan in full and on time, stay away from a margin loan. And if you’re not sure whether you’re financially ready to buy a house, then don’t.
It’s also important to consider how much of your income goes toward housing expenses each month. If that number is more than 20%, it could be a sign that you don’t have enough disposable income left over for other things like groceries and entertainment. In this case, taking on too much debt will only make things worse by forcing you into financial hardship.
What are the risks of a margin loan?
The risks of margin loans are numerous and can be devastating. These include:
- Losing more than you put in
- Losing your house
- Losing your job (or being forced to move)
- Losing your retirement savings, life savings, business and marriage/family relationships due to financial pressure from the loan
Margin Loans are a great way to get additional financial resources when you need them. You can use them for anything – from buying a new car or house, to paying off credit card debt or medical bills. It’s important, however, that you understand how they work before taking one out or recommending one to someone else.