Margin Investing Carries High Risks

Margin investing, also referred to as margin trading, can result is substantial loss. While some investors understand the associated risks, brokers are often less than upfront about the downside to this type of investing.

Before delving into the risks of margin trading, you need to understand what it entails. A margin account is held with a brokerage firm. The brokerage loans money to the investor to increase his or her purchasing power. Up to half the amount needed to purchase an investment, such as a stock, may be loaned to the investor.

Investors are generally drawn to margin trading due to the potential to increase their return on investment. For example, if they are able to borrow 50 percent of the cost to purchase a stock, they are in essence, doubling the possible gain on that investment. Of course, brokerage firms like margin trading, because it allows them to earn interest on the money that was borrowed.

There are some significant risks to margin investing that every investor needs to be aware of. These risks include the following:

• Potential for high losses. With margin trading, you take the risk of losing more money than what was originally invested. That is because you leveraged part of the money needed to purchase the investment.

• Little control. The security that was purchased is viewed as collateral for the loan made by the brokerage firm. That means that the firm has the authority to sell it, without letting you know before the transaction takes place.

• Costs are great. When you utilize a margin account, you are looking at interest costs, fees and commissions, all of which can add up quickly.

If you have lost money due to misconduct in your margin investment account or if your broker traded in your account on margin without your permission, you could have a broker fraud claim.

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