Initial Margin
Candlefocus EditorWhen administering margin, lenders evaluate the applicant’s creditworthiness and their ability to pay back the loan. A margin loan is the amount of money borrowed from a lender to purchase securities with the conditions that the securities are collateral for the loan, and that the account holder continues to maintain the desired equity after investing in the securities. There are two components of the margin process, Initial Margin and Maintenance Margin.
Initial Margin is the minimum amount of equity specified by Federal financial regulations and brokerages which must be maintained in a margin account before buying a security. Initial margin can be a percentage of the purchase price or a fixed dollar amount. The initial margin amount is calculated based on the current market value of the security, the purchaser’s creditworthiness, and the current financial regulations. The initial margin acts as a downpayment and is typically used to help secure the loan.
The margin requirement is not fixed; it can change depending on the situation of the markets and the condition of the individual account holder. Because of this, some account holders may have to pay an initial margin that is higher than the minimum amount required by the regulations. Maintenance Margin is the minimum amount of equity that must be maintained in a margin account after the purchase of the security. If the balance in a margin account drops below the maintenance margin level, the brokerage may choose to close out some of the securities held in the account and the account holder will be liable for the losses.
Overall, Initial Margin requires a certain amount of equity up front. The higher initial margin requirement means the more cash a broker requires as a downpayment on a securities purchase. This lowers the broker’s risk of incurring losses due to the borrower’s inability to repay the loan, and also reduces the likelihood of account holders taking on excessive risk.