Understanding Stocks

WHERE TO BUY STOCKS 63
market, avoid placing orders in the middle of the night or during the
first half-hour and the last half-hour.
If You Don’t Have the Money
When a brokerage firm lends you money to buy stocks, it’s called
“going on margin.” Margin simply means that you are borrowing
money from the brokerage firm so that you can buy additional shares
of the same stock.
Usually, the brokerage will give you a 2-to-1 margin rate. For example,
if you pay the brokerage $2000 to buy shares of Bright Light, the
brokerage will lend you an additional $2000, allowing you to use a total
of $4000 to buy shares of Bright Light. You will be charged interest on
the extra $2000 that you borrowed at current interest rates.
The advantage of margin is that you are using other people’s money
(called leveraging) to make more money. This works great if your stock
goes up in price. On the other hand, if your stock loses money, not only
do you lose some or all of your original investment (which is painful
enough), but you’ll still owe all the money that you borrowed. In the
stock market, stocks go down faster than they go up, so margin can be
extremely dangerous.
In the 1920s, margin requirements were as low as 10-to-1, so if you
had only $1000 to invest, the brokerage would lend you an additional
$9,000. One of the reasons the market crashed in 1929 was because of
margin. As the stock market fell, people who had bought stocks on
margin didn’t have the money to pay back what they had borrowed.
That’s when banks and brokerages stepped in to take possession of people’s
savings accounts, houses, and anything else they could get their
hands on.
In 1934, President Franklin Delano Roosevelt created the Securities
and Exchange Commission (SEC), the government agency charged
with making sure that the stock market is run fairly and protecting
investors. One of the rules the SEC agreed on was an increase in margin
requirements.
If your stocks fall a lot while you are on margin, you might get the
dreaded margin call. The brokerage will call you demanding that you