Content of the material
- How margin trading works
- What Is A Margin Call?
- How Can I Avoid A Margin Call?
- What Is Minimum Margin?
- How Are Margin Requirements Calculated in Robinhood?
- How Can You Avoid Interest Charges on Robinhood Margin?
- Account and Research Amenities
- ETF and Mutual Fund Screener
- Trading Idea Generators
- Third-Party Research
- Cash Sweeps
- Dividend Reinvestment Plans
- SRI/ESG Research Amenities
- Is Robinhood Gold the Right Choice?
- 2. Avoid speculating with options
- A question of culture?
- How to Increase Your Available Margin?
- Motley Fool Returns
- Who Is Robinhood Gold For?
- Sometimes Financial Gaming Can Be Good
- Riley Adams, CPA
How margin trading works
Buying on margin involves getting a loan from your brokerage and using the money from the loan to invest in more securities than you can buy with your available cash. Through margin buying, investors can amplify their returns — but only if their investments outperform the cost of the loan itself. Investors can potentially lose money faster with margin loans than when investing with cash.
This is why margin investing is usually best restricted to professionals such as managers of mutual funds and hedge funds. To make the biggest profits, some institutional investors invest more than the cash available in their funds because they think they can pick investments that earn a higher return than their cost of borrowing money.
“Margin is essentially a loan that you take to get more leverage in your investments,” says Steve Sanders, executive vice president of business development and marketing for Interactive Brokers Group.
Costs for the loans vary considerably, particularly for investors with only about $25,000 in their account. Margin loan rates for small investors generally range from as low as 1.6 percent to more than 8 percent, depending on the broker. Since these rates are usually tied to the federal funds rate, the cost of a margin loan will vary over time. Right now, margin rates, along with many other loan products, are generally at historically low levels.
What Is A Margin Call?
If your stocks decline too far in value, Robinhood starts to worry about your ability to pay them back. As a result, they will issue a margin call and require you to either add more of your own money to the position or sell it and pay them back.
If you get a margin call, you need to bring your account value back up to your minimum margin maintenance amount. If you fail to do this, you are at risk for Robinhood liquidating your position(s) to meet the margin call.
Margin calls can happen for several reasons but are mostly due to a decline in the value of your holdings, causing your account value to fall below your margin maintenance requirement.
How Can I Avoid A Margin Call?
Make sure you regularly check the buying power screen or the margin investing section of the Robinhood account settings page.
Look out for updates from Robinhood when you’re getting close to a margin maintenance call. You’ll typically receive an inbox message when you’re close to receiving a margin maintenance call, and an email once you’ve received one.
There are two ways for you to resolve a margin call:
- You can deposit additional funds to increase your account value above the margin maintenance. This will allow you to keep your positions.
- You can close some of your positions by selling shares. The proceeds from the sales will help cover your margin call. This may allow you to avoid depositing additional funds.
If you think you may be approaching a margin call, it might be a wise idea to cut it off before it happens.
What Is Minimum Margin?
In order to buy stocks on margin, Robinhood will require you to have at least $2,000 or 100% of the security’s purchase price, whichever value is less, deposited into your account. This is called the minimum margin.
This is intended to protect Robinhood and ensure that you have enough skin in the game.
If you will be day trading, you must deposit $25,000 into your account before buying securities.
How Are Margin Requirements Calculated in Robinhood?
Margin requirements are calculated using the midpoint price of all the available market data at that time, between 12 am-6 am Eastern Time.
For example, if you place an order around midnight Eastern Time that would put your account into a deficit (putting you below 30% required margin), it will not be executed until 6 am ET when the markets are live again.
The position can now be filled at market prices with sufficient funds in your account to meet the minimum requirement.
How Can You Avoid Interest Charges on Robinhood Margin?
You can avoid being charged interest by depositing additional cash to your account, setting your own buying power limits, or ensuring that the value of your available margin never falls below the minimum required amount for your specific account tier. Alternatively, you could choose to not use margin on your account.
Account and Research Amenities
Although the overall account and research amenities are meager in comparison to larger rivals, there are some useful features including cash sweeps and basic charting.
ETF and Mutual Fund Screener
Robinhood does not offer an ETF or mutual fund screener.
Trading Idea Generators
Robinhood does not offer trade idea generators. However, you can access trusted news sources for free through the newsfeed.
As a Robinhood customer, you can stay up-to-date with WSJ Markets coverage in-app, as well as news from Reuters and Barron’s, and video from CNBC Business, Reuters, and Cheddar. Additionally, Robinhood offers Snacks, a podcast, newsletter, and video series which delivers the day’s top financial news stories every weekday.
Robinhood provides Morningstar analyst ratings to all customers in the stock detail page in the app. Morningstar provides Robinhood Gold members unlimited access to their premium, in-depth stock research reports. As a Robinhood Gold member, you will have access to Nasdaq Level II Market Data powered by NASDAQ Totalview. These reports are available on 1,700 stocks and are updated frequently to reflect important company events.
Both the web and mobile platforms have charting capabilities, which was built in-house. While line, candlestick, and volume charts are available on the mobile app, there are other charts that are only available on the web. As with all of Robinhood’s functionality, charts are not customizable.
Robinhood does not support money market funds. However, its cash management brokerage feature offers 0.30% on uninvested cash balances to customers enrolled in the deposit sweep program.
Dividend Reinvestment Plans
As a Robinhood user, you will be able to specify dividend reinvestment at the time you purchase a dividend paying stock.
SRI/ESG Research Amenities
Although there are no socially responsible investing (SRI) or environmental, social, and governance (ESG) screeners per say, Robinhood Lists will enable you to search and discover various sectors and themes within the market, including companies focusing on SRI and ESG.
Is Robinhood Gold the Right Choice?
People who want to open margin accounts can benefit from Robinhood Gold. Those who like the idea of commission-free trades but want a few more bells and whistles will likely be pleased with Robinhood Gold.
However, those who aren’t interested in margin trading and just need basic features might find that the standard Robinhood app is enough.
It’s a good idea to give Robinhood a test run, and you can decide to upgrade to Robinhood Gold later on if you think you are missing out on features. The company is currently offering a 30-day free trial for current users to test out the Robinhood Gold platform. Although, you won’t be able to downgrade afterward if you are using margin or the bigger instant deposit feature.
Robinhood is extremely easy to set up and use. Thanks to a mobile app with a clean design that focuses on the basics, Robinhood is an easy choice for investors who primarily use devices to manage their accounts. You can also use the web-based platform which has a similar look and feel to the app. Both platforms support the same order types and asset classes.
Once you log into the app, you will see a line chart that shows your portfolio value and buying power. You will find the main menu on the bottom of the screen, where you can easily use the search function to pull up a stock’s chart over multiple time frames. You’ll see information pertaining to the stock, including its highs and lows, market capitalization, and P/E ratio. Robinhood also provides a news feed, a composite of analysts’ rankings, and a company profile. When you’re ready to make a buy or sell decision, the trade button scrolls along with the page, allowing you to submit an order at any moment.
Overall, Robinhood’s user experience is pleasant and the app functions seamlessly. One caveat is that there is very little you can do to personalize or customize the app to your desired trading experience. The mobile app also lacks any charting or in-depth research tools.
The mobile apps and website suffered serious outages during market surges of late February and early March 2020. The founders said in a blog post that their systems could not handle the stress of the “unprecedented load” and pledged to beef up their systems.
2. Avoid speculating with options
Speculating with short-dated options is yet another mistake most Robinhood investors should avoid. Trying to guess the upcoming moves of stock markets is immensely difficult. Timing them to occur in just the next few weeks is even tougher.
Let’s take Moderna, for example. The stock for this pharmaceutical company more than doubled in July due to promising coronavirus vaccine news (and it was promising). Last week, the stock price fell 15% with no company-specific news. Why? Because a competing inoculation from Pfizer showed promise. That’s all it took. This was entirely out of Moderna’s control and still led to a sharp price decline.
Derivative option traders who stayed bullish on Moderna thinking the company’s own vaccine news would keep propelling it higher lost a fortune from the Pfizer headline risk. When you trade options, you have to be right about the direction of the stock. You also have to be right about when that price movement will occur. The company may very well reach higher highs in the future. Equity holders will benefit, but those options expiring this week or next will most likely not.
Options are generally meant to be used for hedging stock trades, not speculating. If a position is performing especially well or poorly, using puts and calls can be an effective way to limit exposure and downside. When contracts are instead used to guess the next move in a stock, the odds are not in your favor.
Stock markets are an exciting vehicle for building wealth over time. When too much risk is taken — with margin, options, etc. — investing can quickly turn into a cash-burning activity, especially for those who tend to be less experienced with stock trading. I stay away from margin and options speculation. Perhaps you should, too.
A question of culture?
Nearly every brokerage these days offers the ability to trade on margin. But Robinhood — with its avowed mission to “democratize finance” — highlights the use of margin as a way for customers to trade like the pros. It’s also a way for Robinhood, which since launching in 2013 has flourished by offering commission-free trading, to make money given that the firm does charge to borrow on margin. That makes stock lending one of Robinhood’s few profit centers.
As a private company, Robinhood isn’t required to file quarterly or year-end financial statements, as publicly held companies are. But all brokerage firms, public or not, must file a little-known document called a Form X-17A-5 at least once a year with the Securities and Exchange Commission. That disclosure says nothing about profits, but it does detail assets and liabilities, including any loans a brokerage firm has made.
According to its latest Form X-17A-5 filing, as of mid-2020 Robinhood had $1.4 billion in margin loans outstanding. That was more than double the $639 million it had loaned in the previous six months at the end of 2019.
“We don’t know for sure if [Robinhood was] technically more aggressive, but you can guess that it was because of its culture,” said Paul Rowady, director of research for Alphacution, a research firm that specializes in technology and financial markets. “They are gunning to go public and gunning to make themselves look as good as they could.”
How to Increase Your Available Margin?
Increasing your available margin is rather simple. First, you must ensure your account isn’t in deficit and you shouldn’t have received a margin call. These two factors are important to increase your margin.
Next, add more money into your Robinhood Gold account. Increasing your portfolio value will usually increase your available margin. The scale is approximately 1:1, so a $4,000 account should have around the same available margin.
However, if you have a borrowing limit set up, your available margin won’t increase. Even if you add a lot of money, the limit will prevent the margin from rising. You’ll have to remove the borrowing limit first before you can proceed.
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Who Is Robinhood Gold For?
Robinhood Gold is appealing to investors who want more access to advanced investing methods. These investors make small investments, so paying commission fees is out of the question. Commission fees can add up and hurt small investors’ portfolios, but Robinhood Gold charges a flat monthly rate, eliminating that concern.
It’s appealing to people who make a large number of stock or ETF trades since they won’t have to pay commissions on every trade. In addition, mobile users typically like Robinhood Gold since they can use the app easily on the go.
Sometimes Financial Gaming Can Be Good
Just as investing apps can be a great place to learn — when used appropriately in low-risk situations — I believe there is a place for gamification in financial apps. In fact, properly doing this can make money more fun to investigate, learn about and even build skills toward better financial decision-making.Skip advert
For example, by young adults using financial apps to turn budgeting into fun games, apps can help users gain better control over their finances without them necessarily viewing it as a trying experience. This can be especially valuable for young adults who may learn these useful skills at an early age to build better financial literacy throughout their lives.
Riley Adams, CPA
Owner, Young and the Invested
Riley Adams, CPA, is originally from New Orleans but now lives in the San Francisco Bay Area, where he works as a senior financial analyst at Google. He also runs the personal finance site called Young and the Invested, a website dedicated to helping young adults invest, manage and plan their money with confidence.