3 Strategies to Stay Afloat During a Stock Market Sell-Off | Personal Finance

Brokerages will offer margin to their clients at different interest rates and in different quantities depending on a slew of factors like investing experience, portfolio size, etc. No matter the size or interest rate, being on margin is one of the worst things you can do during a stock sell-off.

When stocks are going down in a cash-supported account, long-term investors can take solace knowing that they own shares in real companies. Margin doesn’t work that way because the investor doesn’t really own shares, but rather has borrowed money to buy shares or trade options.

If the investor doesn’t have enough cash to cover a decline in the value of their securities, the broker may issue what’s called a margin call. A margin call means that the client’s equity has fallen below the required levels. There are two basic choices: Sell securities or funnel more cash into the account.

Unfortunately, margin calls lead many investors to forcibly sell during market downturns because they lack the cash to cover their account’s deficit.

Similar to a company that has too much debt, and therefore an unhealthy balance sheet, relying heavily on margin is a sign of financial insecurity. Although it can be tempting to use margin and inflate gains on the upside, the downside risk rarely makes it worth it. Peter Lynch, my personal favorite investor of all time, illustrated the risks of margin well when he said, “When you have a family, and a house, and the market is going down, and you’re on margin, it’s probably too much pressure for you to do the right research and the right kind of thinking to make good decisions.”