Excessive Use of Margin or Leverage
Investors can sometimes borrow money from their brokerage firms by using the value of the securities in their brokerage accounts as collateral for the loans. The investors can then use the borrowed funds for any purpose they want outside of their account (with certain limitations) or to purchase additional securities in their accounts (this is called “buying on margin”). As with any other loan, the investors must pay interest on the money they borrow until the funds are repaid.
Importantly, brokers and their brokerage firms can earn substantial fees based on the amount of money a customer borrows on margin and based on the amount of time the margin loan remains outstanding. They can also earn additional commissions on top of those fees if the customer uses margin to purchase more securities for his or her account. As such, brokers and their firms have an inherent incentive to recommend margin to their customers.
Perhaps for that reason, brokers often fail to fully explain to customers the unique risks that come from using margin. For example, if the securities being used as collateral to support the margin loan decline in value, the customer could be required to deposit additional funds in his or her account or else sell some (or all) of his investments — at possibly the least advantageous time and at distressed prices — to pay down the loan. And if the value of the customer’s securities fall far enough, the customer could lose his (or her) entire original investment and also have to repay the margin loan plus interest. In addition, if a customer decides to buy additional securities on margin, he (or she) has to hope that the new securities will perform well enough to cover their purchase price plus the margin interest and any commissions charged, otherwise he (or she) will lose money.
If your broker advised you to use margin in your account — or if your brokerage firm is demanding that you repay a margin loan that your broker recommended — contact Jacobson Law P.A. to discuss the specific facts of your case. You may have a claim and could be entitled to recover damages.