What is the meaning of credit balance of trading account?

credit balance of trading account

Trading in the stock market is conducted using two accounts: cash and margin. Cash accounts are used to make full payments when buying a financial item, while margin accounts are typically used to trade with borrowed money.

The sum credited to his margin account following the completion of a short sale is the credit balance of the trading account. On borrowed money, a short sale is executed, and the money is then credited to the trader's margin account. An account that is just short-selling will have a credit balance.

What exactly is Credit Balance?

Traders may opt to sell a stock at a premium and then repurchase it at a discount during a downturn in the stock market. This procedure is named as short selling.

Credit from the broker is given to the trader when they sell a stock so they may subsequently purchase the share they sold. The money that is transferred to the trading account is known as the credit balance. 

In the event of a profit, the trader must return the credit amount after deducting the profit. A loss is added to the credit amount and must be returned to the broker by the trader. 

What Are the Different Elements of Credit Balance of Trading Account? 

Here are a few things to bear in mind when trading. 

• An investor with a trading account can borrow money from the broker to buy shares on credit or sell them first using borrowed money. Let's assume a trader wishes to buy shares for 80,000 but only has 40,000 in cash. In this instance, a broker can lend the trader the extra 40,000 through a credit balance in the trading account.
• In order to maintain the minimum margin requirement specified by the broker, the trader must deposit more margin funds. 
• Trading with a credit balance carries risk, and if losses are not covered, the broker may request an extra safety buffer. Brokers have the right to liquidate the short-sell trading position if such an obligation is not met.

How Do Marginal Stocks Work?

You can short-sell marginal stocks after paying a safety margin or purchase or sell them using borrowed money from the broker. Stockbrokers ask traders for a collateral security deposit in a manner similar to how loans operate. Before providing a loan for the purchase of more shares, the broker requests that their customer pledge or mortgage shares. Consider a trader who owns shares worth Rs. 2,000,000 and wants money to purchase further shares worth Rs. 60,000 using a Share trading app. He chooses the shares and the number he wants to commit by going to the broker's website, logging in to open portfolio holdings, and selecting the shares. The loan amount will be allocated by the broker after receiving a haircut.

What is haircut in stock market, exactly? When stockbrokers lend margin money, they use a risk-measuring process called "haircut," which is the amount removed after pledging the shares.

Consider a scenario in which the trader promises shares worth Rs. 60,000 and the stockbroker agrees to lend Rs. 45,000 with a Rs.15,000 haircut. With this sum, investors can now purchase more shares. 

Interest will be added to the borrowing amount by the brokerage. For various share kinds, there are varying haircut amounts. A large-cap share has a lower haircut rate, whereas mid-caps and small-caps have higher rates.

After being unpledged by the trader, pledged shares are moved to the broker's pooled account and are then transferrable. Using a PIN or SMS-based OTP, a trader can send pledge shares from their Demat account to brokers.

How Should Credit Margins Be Handled Carefully?

Investments using credit margins are dangerous strategies with an equal chance of success or failure. Making a sound investment choice with borrowed money requires research.

• The debit balance or the amount owed to the broker with interest may change, which raises the risk of an investment. To reduce risk, it's crucial to invest in the correct stock at the right moment.
• The terms and conditions of the credit balance account agreements, the authorization of marginal stocks, and their various margin rates should all be studied by a trader.
• If the maintenance margin requirement is not reached, the broker may sell the shares that the trader acquired with borrowed money without the trader's permission. To avoid such a substantial loss, traders should closely manage their holdings.
• A maintenance margin governs an account with a credit balance. The broker has the right to sell the trader's shares if this margin is not maintained. Therefore, if the share price falls below the maintenance margin stipulated in the contract, the trader is required to deposit money or collateral into his or her credit balance account.

Conclusion

A credit balance of a trading account has a chance of making a profit or losing money. Before purchasing or shorting stocks on a credit balance, investors must conduct extensive research on the companies. 

When investing, the credit balance of the trading account should be utilized with caution since it has two points of view. Before making an investment, do thorough research, and implement a stop-loss order to guard against catastrophic losses.