Margin Call: What It Is and How to Meet One With Examples

What Is a Margin Call?

A margin call occurs when the percentage of an investor’s equity in a margin account falls below the broker’s required amount. An investor’s margin account contains securities bought with a combination of the investor’s own money and money that was borrowed from the investor’s broker.

A margin call refers specifically to a broker’s demand that an investor deposit additional money or securities into the account so the value of the investor's equity and the account value rise to a minimum value indicated by the maintenance requirement.

A margin call is usually an indicator that the securities held in the margin account have decreased in value. The investor must choose to either deposit additional funds or marginable securities in the account or sell some of the assets held in their account when a margin call occurs.

What Triggers a Margin Call?

An investor is buying on margin when they pay to buy and sell securities using a combination of their own funds and money borrowed from a broker. An investor’s equity in the investment is equal to the market value of the securities minus the borrowed amount.

The New York Stock Exchange (NYSE) and the Financial Industry Regulatory Authority (FINRA), the regulatory body for the majority of securities firms operating in the United States, both require that investors maintain an equity level of 25% of the total value of their securities when buying on margin. Some brokerage firms require a higher maintenance requirement, as much as 30% to 40%.

Margin calls can occur at any time due to a drop in account value but they're more likely to happen during periods of market volatility.

Example of a Margin Call

Here's an example of how a change in the value of a margin account decreases an investor's equity to a level where a broker must issue a margin call.

How to Cover a Margin Call

The investor typically has two to five days to act if their account value drops to a level where a margin call is issued by their broker. These are the options for doing so using the margin call example above:

1. Deposit $200 in cash into the account.
2. Deposit $285 of fully paid-for marginable securities into the account. This amount is derived by dividing the required funds of $200 by 1 less the 30% equity requirement: 200/(1-.30) = $285.
3. Use a combination of the above two options.
4. Sell other securities to obtain the needed cash.

A broker may close out any open positions to replenish the account to the minimum required value if an investor isn't able to meet the margin call. They may be able to do this without the investor’s approval. The broker may also charge an investor a commission on these transaction(s). The investor is held responsible for any losses sustained during this process.

How to Avoid a Margin Call

Investors should carefully consider whether they need a margin account before opening one. Most long-term investors don't have to buy on margin to earn solid returns. And these loans aren't free. Brokerages charge interest on them.

But there are a few things you can do to manage your account, avoid a margin call, or be ready for it if you want to invest with margin:

• Make sure cash is available to place in your account immediately. Consider keeping it in an interest-earning account at the same brokerage.
• Build a well-diversified portfolio. This may help limit margin calls because a single position is less likely to decrease the account value.
• Monitor your open positions, equity, and margin loans regularly, even daily.
• Create a custom-made alert at some comfortable level above the margin maintenance requirement. Deposit funds or securities to increase your equity if your account falls to it.
• Take care of it immediately if you receive a margin call.

A good way for an investor to avoid margin calls is to use protective stop orders to limit losses in any equity positions in addition to keeping adequate cash and securities in their account.

The Bottom Line

Buying on margin isn't for everyone. Not all investors will have available funds to reach initial and maintenance margins on margin trading accounts. It can give investors more bang for their buck but there are downsides.

It's only an advantage if your securities increase enough to repay the margin loan and the interest on it. Another headache can be the margin calls for funds that investors must meet.

A margin call may require you to deposit additional cash and securities. You may even have to sell existing holdings or you may have to close out the margined position at a loss. Margin calls can occur when markets are volatile so you may have to sell securities to meet the call at lower-than-expected prices.

Disclosure: This article is not intended to provide investment advice. Investing in securities entails varying degrees of risk and can result in partial or total loss of principal. The trading strategies discussed in this article are complex and should not be undertaken by novice investors. Readers seeking to engage in such trading strategies should seek out extensive education on the topic.