Regulation U is a Federal Reserve Board rule created to prevent excessive credit from being used to support purchases of securities. The regulation restricts the type of loans and amounts that certain entities can lend to customers who are buying, carrying, or trading margin stock.
When a customer buys margin stock, they are initially required to deposit cash or marginable securities as collateral. If they don't have enough initial funds, they may be able to borrow money from lenders to purchase the stock. Regulation U sets the maximum loan amount and other related requirements for lenders who extend credit secured by margin stock.
This regulation applies to a wide variety of lenders, including commercial banks, credit unions, insurance companies and production credit associations. It does not, however, cover securities brokers and dealers, equity securities registered on a national exchange, such as the New York Stock Exchange, or mutual funds.
Under Regulation U, lenders must verify the amount of collateral used for each loan. The collateral must be equal to at least 120 percent of the total loan amount, known as the "Reg U margin requirement." If market value of the collateral drops below this level, the lender must notify the borrower to increase it. The borrower must restore the balance in three business days or else they risk having their loan called in.
In addition, Regulation U imposes specific requirements on the terms of loans used to purchase margin stock. Lenders must set maximum loan amounts, mandatory maintenance reserves, and the maximum loan duration. Additionally, the regulation prohibits lenders from extending margin loans to customers who are not classified as sophisticated investors—those who have a high level of education or experience with financial matters.
Regulation U is an important part of the regulatory framework that is designed to protect consumers from excessive debt and potential losses when investing in margin stock. By setting limits on the terms of margin loans, the rule helps to ensure that lenders do not overextend their credit to borrowers and that borrowers understand the risks of trading with leverage.
When a customer buys margin stock, they are initially required to deposit cash or marginable securities as collateral. If they don't have enough initial funds, they may be able to borrow money from lenders to purchase the stock. Regulation U sets the maximum loan amount and other related requirements for lenders who extend credit secured by margin stock.
This regulation applies to a wide variety of lenders, including commercial banks, credit unions, insurance companies and production credit associations. It does not, however, cover securities brokers and dealers, equity securities registered on a national exchange, such as the New York Stock Exchange, or mutual funds.
Under Regulation U, lenders must verify the amount of collateral used for each loan. The collateral must be equal to at least 120 percent of the total loan amount, known as the "Reg U margin requirement." If market value of the collateral drops below this level, the lender must notify the borrower to increase it. The borrower must restore the balance in three business days or else they risk having their loan called in.
In addition, Regulation U imposes specific requirements on the terms of loans used to purchase margin stock. Lenders must set maximum loan amounts, mandatory maintenance reserves, and the maximum loan duration. Additionally, the regulation prohibits lenders from extending margin loans to customers who are not classified as sophisticated investors—those who have a high level of education or experience with financial matters.
Regulation U is an important part of the regulatory framework that is designed to protect consumers from excessive debt and potential losses when investing in margin stock. By setting limits on the terms of margin loans, the rule helps to ensure that lenders do not overextend their credit to borrowers and that borrowers understand the risks of trading with leverage.