Don’t start trading on margin until you read this advice.
- Dave Ramsey is a well-known financial expert.
- He provided advice on margin trading.
- Ramsey doesn’t think that’s a good idea, considering what can go wrong.
When you start investing money, you may be keen to put as much money into the stock market as possible so that you can hopefully start making a big profit on your investment. In fact, it may even seem worthwhile to trade on margin.
Margin trading means you borrow from your brokerage firm in order to invest more money (usually in the stock market). Typically, the margin loan is secured by the value of your other invested assets. You pay interest on your margin loan and eventually have to repay what you borrowed. The goal, of course, is to make more money than you spend on interest. So when you repay the loan, you keep the gains made while it was on the market.
Margin trading might sound like a good idea if you’re confident in your investment choices, but personal finance expert Dave Ramsey has issued a stark warning about using this technique. Here’s what he had to say.
Here is Dave Ramsey’s opinion on margin trading
On the Ramsey Solutions blog, Dave Ramsey’s position on margin trading is very clear. When discussing a margin brokerage account, Ramsey said: “Listen to us, never borrow money to invest. Not only is it extremely risky, but you will also have to pay interest on what you must.”
Ramsey cautioned that margin lending is a form of debt, and he’s generally not a fan of borrowing money, even if the ultimate goal of doing so is to try and increase your net worth. And he also explained that margin loans are a particularly dangerous way to borrow because of the possibility of having to immediately pay back what you owe.
See, if you borrowed on margin and the total value of your investment account falls below a set level, your broker could demand immediate repayment of the loan. This is called a margin call. This could force you to sell some of your assets at a loss (when they would have otherwise recovered if you had kept them) or deposit more money quickly into your accounts.
This is exactly what Ramsey warns about when he explains why you should never borrow using a margin loan for investing. The interest charges you’ll end up paying (which could reduce your potential returns and make it more difficult to make a profit) combined with the risks of margin lending prompted Ramsey to recommend only cash accounts, rather than margin accounts with a brokerage firm.
Should we listen to Ramsey?
Ramsey is absolutely right that it can be more difficult to make profitable investments when investing on margin because of the money you lose in interest, and because there is a risk of having to sell at an inopportune moment if your investments lose value and your brokerage issues a margin call.
But these risks do not necessarily mean that you should never trading on margin under all circumstances. Margin gives you the flexibility to invest more than you otherwise could and it has paid off for some successful traders. Ultimately, it depends on your level of confidence in your investments and your ability to choose which assets to buy. Margin trading can make you a lot of money if you’re a good investor – and can cost you a lot of money if you’re not.
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