877-218-1776 
In cash accounts, customers pay for securities purchases in full, no later than settlement. On the other hand, margin accounts allow customers to purchase securities on credit. These customers then pledge the securities they are purchasing on credit as collateral to the lender, the broker-dealer. If the market value of the securities drops, the broker-dealer can sell the securities to recover the money it lent the customer.
The fact that the broker-dealer has collateral backing the loan to the customer allows them to charge a lower interest rate than that typically paid on a credit card. Moreover, this interest is tax-deductible, helping offset portfolio income for that year.
The use of borrowed money to earn potentially outsized returns is a form of leverage. Like bonds, private equity, and closed-end funds, margin accounts are associated with use of leverage. Investing on margin is a high-risk strategy that involves buying securities on credit in hopes of making more on the securities positions than the broker-dealer charges in interest on the margin loans. By using leverage in a margin account, investors double their potential gains, but also double their potential losses.
The term “equity” is often used in relation to real estate. Let’s say a homeowner buys a property for $200,000 and borrows $100,000 to do so. The mortgage account starts out looking like this:
| $200,000 | Market Value |
| -$100,000 | Money Owed |
| $100,000 | Equity |
Equity is ownership and equals the difference between what someone owns (assets) and owes (liabilities). As with a margin account, the initial equity is the investor’s down payment. Assume that this home’s value then increases 5% annually for three years running, and the homeowner also pays down some principal. At this point, the account looks like this:
| $ 231,525 | Market Value |
| -$80,000 | Money Owed |
| $151,525 | Equity |
The equity is just a number, but the customer can decide to borrow against that amount, either all at once or going forward as needed.
In a margin account, investors buy stocks and bonds on credit. If their market value rises, they win. What if their market value drops? Then, they have a problem.
Buying securities on margin increases both potential gains and losses to the investor.