If you are a beginner in the stock market and are about to open a demat account, then you need to know how margin works in intraday trading. But, before we get there, let us understand margin’s meaning.
When you use margin in the stock market, you use borrowed funds to buy or sell shares to amplify your gains. Now, you may ask: what is margin in intraday trading? Before that, you need to know what intraday trading is.
What is Intraday Trading?
In intraday trading, you buy and sell shares within the same trading day. So, if you buy a share, you sell it before the market closes for the day. And, if you sell a share, you purchase it before the market closes on that day.
In short, whatever position you take in intraday trading, you square it off before the end of the trading day. As a result, you do not have any overnight positions in intraday trading. You use intraday trading to capitalise on a short-term movement in a security’s price.
What is Margin in Intraday Trading?
As we discussed, intraday trading allows you to buy or sell shares and square off the position within the same day. But, what if you want to buy or sell shares for more than your own funds allow? In that case, you can ask your broker to provide you with a margin trading facility (MTF) to take an intraday position. This is how you can utilise margin in intraday trading.
Now, we all know that margin trading is inherently risky. When you borrow money from a broker, you have to invest only a part of the capital required for a trade. As your own capital is low, gains and losses on such positions get magnified.
If margin trading is risky, using margin for intraday trading is even riskier for two reasons. First, you use borrowed funds to take a position, which makes you pay interest and amplifies your profits and losses both.
Second, you have to square off a position before the market closes for the day, as you are not allowed to have an overnight position in intraday trading. Hence, no matter what the price is, you will have to square off the position and you may end up incurring a huge loss.
Example of Intraday Trading With Margin
Suppose you notice that a stock is trading at ₹100 at 12 noon. You have ₹1,000 in your trading account, which allows you to buy 10 units of this stock. However, you want to buy 30 such stocks. For that, you need ₹3,000. So, your broker lends you ₹2,000, which allows you to buy 30 units of this stock.
As you have taken an intraday position, you have to sell the stock before the market closes for the day. At 2 PM, you notice that the price of the stock is ₹110. Hence, you decide to sell it because if the price falls below ₹100 before the market closes, you will have to square off the position by incurring a loss.
By selling it at ₹110, you will be earning a profit of ₹300 (3300 – 3000) on your capital of ₹1,000. Hence, you have earned a profit of 30%. Suppose you decide not to sell at 2 PM and the stock’s price falls to ₹95 by the time the market closes.
In this case, you will get ₹2,850 by selling 30 stocks, while you have invested ₹3,000 on them. This means your loss is ₹150 on your own capital of ₹1,000. Hence, you have incurred a loss of 15%.
Meanwhile, when a stock’s price starts falling, a broker can issue a margin call, requiring an investor to deposit more funds. When an investor cannot do so, a broker can sell his assets.
Conclusion
It is not tough to understand margin meaning. However, using margin for intraday trading is quite difficult because it requires you to correctly judge where the market is headed. Hence, it is ideally meant for experienced traders. If you are a beginner, you should first learn about the market and only then use such risky strategies.
