Your broker may offer the option to deposit your investment funds into a margin account. This means you can borrow money to invest with and buy more stocks than you have cash for. If your stocks go up, you get the full profit with what you borrowed. You can sell the stocks, pay back the loan and pocket the profit. If your stocks go down, you have to pay back the loan and take your losses.
Lower Capital Investment
You can invest less money in the stock market with a margin account. You can get up to twice the buying power you would have with a simple cash account. For example, buying $50,000 worth of stock in a margin account only requires you to use $25,000 worth of cash.
You get twice the profits when you buy “on margin,” as it is called in the brokerage business. Here’s how it works: You buy $50,000 worth of stock, but because you have a margin account, you only pay $25,000 in cash. Assume the $50,000 worth of stock goes up 10 percent and you made $5,000, since you only invested $25,000, you really made 20 percent on your cash investment.
You pay interest on the money you borrow in a margin account. That interest is tax deductible as an investment expense. This can help offset some of the taxes you must pay on any gains you make on your stocks.
A margin account can offer you even more borrowing power if you are successful in your stock trading. As your portfolio rises in value, so does the amount you can borrow on margin. If you successfully invest again, borrowing money to double your buying power, you once again raise the value of your portfolio and thus your borrowing power.
You can buy dividend stocks using your margin account. The dividends you earn on your stocks can offset the interest you pay for the money you borrow. If the stock goes up in price, you benefit from your leveraged profits plus collect the dividend. This can grow your portfolio even faster.
Kevin Johnston writes for Ameriprise Financial, the Rutgers University MBA Program and Evan Carmichael. He has written about business, marketing, finance, sales and investing for publications such as "The New York Daily News," "Business Age" and "Nation's Business." He is an instructional designer with credits for companies such as ADP, Standard and Poor's and Bank of America.