This wave reflects a broader shift in how retail investors engage with the stock market, leveraging new tools and strategies to maximize their investments. This shift also has significant implications for brokers, who generate revenue not only from brokerage charges but also from lending funds to investors.

This allows investors to purchase more shares than their current funds permit. This is known as margin trading facility (MTF).

MTF enables an investor to borrow funds from a broker at a specified interest rate, facilitating the purchase of additional shares.

Interest costs

The interest rates for MTF range from 9-20%, depending on the brokerage. Some brokers impose a time limit on holding shares, after which positions are liquidated, while others have no such restrictions. Under MTF, investors must provide 20-25% of the investment value, with brokers covering the remainder. The interest cost is calculated daily based on the duration the stock is held.

For example, if a stock is held for 60 days at a 14% interest rate, the daily interest rate amounts to 0.038%. For the entire holding period, this totals about 2.3%. However, not all stocks are available under MTF; brokers are allowed to lend funds for only 1,000-odd stocks.

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Futures vs MTF

Leveraged positions can also be taken in futures segments with a lower margin. However, due to the minimum lot size requirement, futures trading necessitates a higher minimum ticket size.

As Jay Prakash Gupta, founder of Dhan, an online stock trading and investment platform, points out you can buy even one share of a stock under MTF. He adds that not all stocks have futures contracts. “The universe of future contracts is narrower than that of MTF,” he adds. Additionally, futures contracts have expiration dates, while MTF purchases can be held for longer periods.

In terms of taxation, gains from futures contracts are taxed as business income, attracting a higher tax rate, whereas MTF gains are subject to capital gains taxes: 15% for short-term and 10% for long-term after a year. Long-term capital gains up to ₹1 lakh are tax-free.

Margin call

Brokers enforce risk-management practices, requiring investors to replenish their initial investment if the stock price drops below a certain threshold, usually 20-25%. If the investor fails to do so, the broker can sell the shares to recover the dues.

Profit & Loss

Let’s consider a potential profit scenario: An investor sees an opportunity in the stock of XYZ Ltd., trading at ₹1,000. With ₹10,000 in their account, they can buy only 10 shares, but by borrowing an additional ₹30,000 through MTF at 14% interest, they can buy 40 shares. After holding the stock for 60 days, the price rises to ₹1,100. The investor sells the 40 shares for ₹44,000. After accounting for the initial investment, borrowed funds, and interest cost, the profit is ₹3,310, or 33% on the initial ₹10,000 investment.

But what if the stock price fell? In this case, selling at ₹900 yields ₹36,000, resulting in a loss of ₹4,690, or 46.9% on the initial investment. In contrast, had the investor only bought 10 shares outright, the loss would have been limited to 10%.

Should you use MTF?

Using leverage to buy shares can be highly risky if the stock price starts to see significant correction. As shown in above example, your losses can magnify. Also, there is an interest cost involved. The longer you hold your position, the higher will be the interest cost. So, long-term investors should avoid leveraged investing. Instead, they can build their equity portfolio gradually with staggered investments.

If you are first-time investor, it is advisable to avoid direct stock investing. Start building your investment portfolio through a diversified equity mutual fund.