If there’s one thing I don’t recommend, it’s buying stocks on margin. Due to the volatility of stocks and high margin rates, borrowing money to purchase stocks is a bad idea.
Conversely, I have nothing against buying a home with a deposit (i.e., through a mortgage) if the purchase follows home buying guidelines such as the 30/30/3 rule. Homes provide utility in the form of residences, are typically held for around 12 years, and generate income with less volatility. Mortgage rates also tend to be much lower than margin rates.
But the reality is that buying any risky asset on margin is risky because it magnifies losses and gains. If you borrow too much, you could go bankrupt if you are forced to sell.
Let’s take a case study of buying a stock on my own margin – why I did it, the potential impact and the key questions you should ask yourself before opening a stock margin account.
Buy stocks on margin at 12.575% interest rate
As it turns out, I actually purchased about $12,500 worth of stock on margin at an interest rate of 12.575%, and I didn’t even realize it until a week later. The margin interest rate of 12.575% is a highway robbery and I will never accept it. However, that’s exactly what I did for a short period of time.
As a father, one of my primary responsibilities is to ensure the financial security of my family. After purchasing a house we didn’t need in late 2023, I slashed our liquidity and temporarily put our family at risk.
From that point on, I started working part-time in consulting, did some personal finance consulting, and saved and reinvested almost all the money I made in stocks, bonds, and real estate. More than 16 months later, my Financial Security Fund is in good shape, with approximately $706,000, equivalent to two years of comfortable living expenses. My ultimate goal is to grow this fund to at least six years’ worth of living expenses by December 31, 2027.
As a devout dollar-cost averager, I’ve made a habit of investing in stocks on a monthly basis since the early 2000s. When stocks start falling in early 2025, I want to buy more shares because that’s what dollar-cost averaging investors do.
There was just one big problem: I had no money to invest! But I invested because I had a margin account at Fidelity.
Here’s a snapshot of some VTI ETFs I bought on margin.
Why I Buy Stocks on Margin at Expensive Interest Rates of 12.525%
Before writing this article, I didn’t realize how many stocks I bought on margin or even what the margin rates were. However, my mental cash flow calculations indicate that I have put in the margin, especially since my account shows, “Not affected by margin: $0.00” But I still keep buying.
Here’s why this happens, and why you should think twice before doing the same thing.
1) It’s easy to do, but dangerous
The number one reason I buy stocks on margin is because I can buy stocks effortlessly. A few years ago, I remember clicking on some buttons asking if I wanted to set up a margin account to purchase some speculative securities. So I did it. Opening one is so easy.
This ease is a double-edged sword. Fidelity did not warn about the consequences of buying stocks on margin or highlight how much it would cost to borrow. Entering purchase transactions on a margin account is no different than my normal habits, creating a frictionless (and risky) process.
2) Regular investment habits
Since getting my first job in 1999, I have invested at the beginning and middle of every month. Dollar-dollar averaging has served me well, so even in cash-strapped moments, it doesn’t feel normal to stop investing when stocks correct.
Make it a habit to pay yourself first and save and invest a portion of your income each month before spending it. If you stick to it for 10 years, you will be surprised how much wealth you have accumulated. Aim for a minimum savings rate of 20%, but if you want to achieve financial freedom faster, aim for 50%.
3) Take advantage of falling opportunities
Ever since I started my stock investing journey in 1996, I’ve had a strong urge to buy dips. Historically, the fear of losing more has held me back at times, but as I’ve diversified and my net worth has grown, I’ve become more confident in my ability to weather a downturn. Once you’ve been through a few bear markets, you stop worrying so much.
When the S&P 500 fell from 6,084 to 5,800, I felt compelled to take action—not just for my financial future, but for the future of my children (ages 7 and 5). From a 20-year perspective, I believe today’s prices will look cheap in the future, even if the S&P 500 continues to correct. I will maintain dollar-cost averaging to take advantage of future declines because I know long-term investing is my focus.
4) Confidence in new income
I also buy on margin because I anticipate income. Within a few weeks I was receiving dividends, reimbursements, and internet revenue. Essentially, this is a Cash flow does not match the timing of the investment opportunityI don’t want to miss out and wait for the funds to fall.
This is similar to using an overdraft line of credit on your checking account to smooth out the timing of your spending. For active investors, a margin account can serve the same purpose, although it requires careful supervision.
5) This is a manageable amount
In the end, the margin purchases were modest: about $12,500, less than 2% of my total portfolio balance. I know I can pay it off quickly, minimizing interest payments.
For context:
- The cost to borrow $12,000 for 30 days at an interest rate of 12.575% is approximately $125.
- More likely, two weeks would cost approx. $59.
At the time, I assumed interest rates would be closer to 8-9%, or twice the risk-free rate of return, so discovering the true cost prompted me to immediately move every piece of idle money in my checking account into my Fidelity portfolio to Reduce risk.
Below is a snapshot of my account balance details showing a negative cash balance of $10,585.13, equivalent to my margin balance. It also highlights that my daily margin interest charge is $3.70, with a month-to-date charge of $29.95. I ended up paying off the security deposit balance within two weeks.
Margin accounts bring dangerous temptations
While margin can be a useful tool for experienced investors, it’s crucial to fully understand your borrowing costs and risks before committing. cost-effectiveness.
Once you open a margin account or convert your account to a margin account, you may face lure to increase leverage. For example, my margin buying power is $723,268, which could easily tempt me to go all-in on speculative investing. While the outcome can be great, it can also end disastrously.
Given the high margin rate of 12.575%, most people will not buy stocks on margin and hold them for 12 months. This is especially true if Wall Street’s median forecast for the S&P 500 is well below margin rates. Remember, a number is a prediction that may or may not come true, and your margin rate is the guaranteed cost.
In contrast, margin traders typically borrow money for short periods of time with the goal of making a quick profit. Unfortunately, day trading rarely goes as planned, often leaving traders poorer due to trading losses and margin interest payments.
Don’t intentionally use margin to buy stocks. The temptation to trade undisciplined or exceed your risk tolerance is great. Using margin can feel like gambling in a casino or playing high-stakes Texas Hold’em—exciting, but inherently risky if you’re not disciplined.
Questions to ask yourself before opening a margin account
For those who are still considering opening a margin account, take some time to think about these questions first. If you can answer confidently At least three are A margin account is only worth exploring if the following conditions are met:
- Do you have at least two abs?
- Have you spent at least 10 years mastering your skills and becoming an expert in your field?
- Can you easily go 60 days without smoking, drinking alcohol, drinking soda, drinking coffee, or using other substances?
- Do you fully understand the stock market’s average historical returns, your chances of making or losing money, and the costs associated with buying stocks on margin?
- Do you have a degree in finance, work in finance, or have an MBA?
- Did you invest at least $100,000 during the 2008 global financial crisis to understand your true risk tolerance?
- Do you have a high risk tolerance (evidenced by having at least 80% of your portfolio invested in stocks for five years or more)?
- Do you or your spouse have a stable job with good career prospects?
- Is your net worth equal to at least 10 times your annual household income?
Don’t buy stocks on margin if you don’t have to
Do not open a margin account if you have addictive tendencies or lack financial discipline. Instead, stick to the proven method of using a portion of your income and stock holdings to buy stocks. In the long run, you may achieve better results than margin traders without taking on unnecessary stress or risk.
Readers, do you use margin to buy stocks? If so, when do you typically use margin, and how do you decide how long to hold a stock? Have you ever given in to temptation and purchased more shares on margin than you should have? How did that experience turn out?
Investing in Private Growth Companies
If you’re willing to buy stocks on margin, you might consider investing in private growth companies. As companies stay private longer, private investors stand to gain more. Therefore, it is logical to allocate most of the investable capital to private companies.
Check Fundrise venture capital products, It invests in the following five areas:
- Artificial Intelligence and Machine Learning
- Modern data infrastructure
- Development Operations (DevOps)
- FinTech
- Real Estate and Property Technology (PropTech)
About 65% of Fundrise’s venture capital products are invested in artificial intelligence, which is an industry I am optimistic about. Recently, President Trump announced a $500 billion AI infrastructure plan called “stargate,” underscoring the government’s commitment to artificial intelligence. In 20 years I don’t want my children to ask me why I didn’t invest or work in AI when the opportunity was so obvious!
The minimum investment is only $10. The minimum investment amount for most venture capital funds is over $250,000. Additionally, you can see what Fundrise holds and how much to invest before deciding to invest.
While I don’t like buying stocks on margin, I like investing in high-quality growth stocks in a diversified portfolio. I have personally invested over $153,000 in Fundrise, a long-term sponsor of Financial Samurai. I plan to continue to introduce dollar-cost averaging into venture capital over time.
Buy stocks on margin at 12.575% interest rate and survive This is an original post by Financial Samurai. all rights reserved. Sign up for my free weekly newsletter here and join over 60,000 other wealth creators.
