A margin trading facility (MTF) is a popular form of leverage that can be used to trade stocks. It allows investors to control larger positions in the stock market than they could with their own money.
MTF is a high-risk strategy that can result in significant losses but offers several benefits. In this article, we will discuss 5 benefits of margin facility in stock trading.
What is MTF?
Margin Trading Facility also known as Margin Trading Funding is a facility offered by brokers that allow traders to buy stocks using borrowed money. The money borrowed that is known as the margin, allowing traders to increase their buying power, which can result in higher returns. However, it also increases the risk of losses. MTF is unsuitable for every investor and requires careful consideration before investing.
5 Benefits of MTF
1. Increased Buying Power
One of the primary benefits of MTF is increased buying power. With MTF, investors can buy stocks by putting down a small fraction of the total value of the stocks they are buying. This is called the margin requirement. The margin requirement is a percentage of the total value of the stocks being purchased.
For instance, if an investor wants to buy ₹10,000 worth of stocks and the margin requirement is 25%, they would only need to put down ₹2,500 as the initial margin. This means that the investor can buy stocks worth ₹10,000 with only ₹2,500.
This increased buying power allows investors to take advantage of opportunities in the stock market that they would otherwise miss out on.
2. Magnified Profits
Another benefit of MTF is the ability to magnify profits. Investors can control larger positions in the stock market than they can with their own money with MTF. This means that if the stock price rises, the profits will be more than they would be with the money owned.
In continuation of the above example, if an investor has ₹2,500 and uses MTF to buy stocks worth ₹10,000, and the stock price rises by 10%, the investor will make a profit of ₹1,000 instead of ₹250 (which would have been the profit if the investor had used only their own money).
Using MTF, investors can magnify their profits and increase their returns on investment. However, it is essential to remember that MTF can also magnify losses, so investors must use it wisely and only when they thoroughly understand the risks involved.
3. Short Selling
MTF also allows investors to short-sell stocks. Short selling is a strategy investors use to make money when the price of a stock falls. This helps investors to borrow stocks from their broker and sell them in the market.
If the stock price falls, the investor buy the stock back at a lower price, return the borrowed stocks to the broker, and make a profit. This is a useful strategy for investors who believe a stock’s price will fall.
This allows investors to take advantage of market trends and potentially increase their returns on investment.
4. Enhanced Wealth Creation
One of the benefits of using MTF is that you can increase your wealth creation potential in the long run. Although you are borrowing money to invest, you are using the loan to purchase an appreciating asset like equity, which has the potential to create wealth over time. Investing in equities through MTF can increase your returns and accumulate more wealth in the long run.
Equities have historically generated higher returns than other asset classes like bonds or cash. By using MTF to invest in equities, you can potentially magnify your returns and create wealth in the long run. Indeed, it is important to remember that investing in equities carries risks and should be approached with caution.
5. Seizing Market Opportunities
As mentioned earlier, one of the benefits of MTF is that it can provide you with the liquidity to capitalise on lucrative buying opportunities in the market. With MTF, you can buy more shares than you could with your funds, allowing you to seize opportunities you may have otherwise missed.
This can be especially valuable in volatile markets, where prices change rapidly and buying opportunities arise unexpectedly. With MTF, you can act quickly and take advantage of these opportunities, potentially enhancing your returns and building your portfolio.
The Bottom Line
Margin Trading Facility can be a powerful tool for stock traders and become a valuable addition if used correctly. However, it is worth noting that MTF is a high-risk strategy that can result in significant losses if not used wisely.
Before using MTF, it is crucial to understand the risks involved and approach them with caution thoroughly. As with investment strategy, it is important to research and makes informed decisions based on your financial goals and risk tolerance.
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