(Cash account) you sell the shares that you have already purchased earlier, while in the (margin account) you can sell the shares even if you do not own them, by using the purchased shares as collateral for the loan and then using trading on margin, i.e. trading with financial leverage.
Cash accounts suit the following types of traders:
- Conservative traders who want to limit their risks. When a trader has several open trades for different assets, he can overlook small things like the triple swap (additional fees or interest applied to traders who hold open trades in the Forex market during a specific night, which is usually the night before Wednesday, because trades are settled over 3 days instead of 1 day, due to weekends in the financial markets), or an error may be made when calculating the transaction size. But since there is no borrowed money in this case, the trader is only risking his own money;
- Traders who make very few trades and prefer long-term investing. Borrowed funds are needed when you need to make a transaction urgently but do not have sufficient own funds. Long-term investment does not require borrowing money;
- Inexperienced traders who have not yet learned how to calculate the level of risk are not recommended for trading with borrowed funds;
- All persons who, for some reason, do not wish to engage in trading with loan funds.
What is the margin percentage in trading? Margin: When opening a trading deal, you will need a certain amount of liquidity, which is known as margin. It is not considered an accrued cost, but rather an amount that is deducted and frozen when a trading deal is opened, to be recovered again once the deal is closed.
Cash account and the most important advantages and disadvantages
What are the advantages of cash accounts?
We will review below the advantages of cash accounts:
- You cannot lose more money than you have. You could lose your entire deposit if the value of the asset deteriorates completely. In this case, you will not reach a negative balance.
- You will not receive margin requests and will not be subject to forced stoppage of trades. You can wait until the decline ends. You can also buy assets without the risk of your position being stopped.
- Flexibility. A trader in a cash account can buy and sell securities for any amount he can afford in cash. As for a margin account, the broker can request a minimum trade size.
- Low commissions. Cash accounts may have lower commissions than margin accounts because the trader does not use borrowed funds and does not pay interest on them.
- Suppressing feelings/emotions. A trader cannot use more money than he has. So, there is no temptation to use 2 or 4 times the loan.
The advantages also include the absence of legal restrictions. For example, in the US, regulators set minimum margin requirements for margin accounts and link the number of transactions to the minimum cash deposit amount (PDT rule). While there are no such restrictions on cash accounts.
What are the disadvantages of cash accounts?
Cash accounts also have a number of disadvantages:
- Limited opportunities. Traders can only trade with their own money. Short selling is excluded, as the investor can only sell available assets.
- There is a settlement period. Funds will be credited to the account two to three business days after the asset is sold.
- There is no financial leverage. The trader misses the opportunity to make money from the temporary decline in the value of the asset in the market.
Margin Account vs Cash Account and Trading Strategies
Popular trading strategies for margin accounts are:
- Scalping – high-frequency trading, which also includes short selling trades.
- Trading strategies according to the daily trend with a consistent increase in the transaction volume due to leverage in the presence of a fixed trend;
- (swing trading) – trading on corrections by opening opposite trades. A sell deal is opened upon correction to an upward trend, so the trader benefits from price fluctuations in both directions.
On a margin brokerage account, it is also possible to try pump trading strategies (a strategy in which one takes advantage of the rapid and unjustified rise in the prices of stocks or cryptocurrencies due to external influences such as misleading advertising or excessive promotion), and the average cost strategy (averaging a strategy of purchasing large quantities of equal amounts of assets over specific time periods regardless of price, with the aim of reducing the impact of price fluctuations on the investment), and hedging strategy is a strategy that aims to reduce the risks associated with price fluctuations of assets by opening opposite positions in the market. Hedging usually involves buying and selling assets with relationship, such as stocks and futures, to achieve balance and limit potential losses.
Trading strategies for cash investment account:
- Position trading (or long-term trading) involves making money from long-term uptrends. This strategy is suitable for trading stock indices and buying shares of companies from the retail sector with a constant demand for products. It is possible to form an investment portfolio and achieve an annual relative return and distributed profits.
- Trading based on fundamental analysis. It means opening buy trades just before the release of financial statements or dividends.
If you prefer active trading, choose a margin account.
Margin account versus cash account and securities in your account
In the cash account, the trader can buy securities, which are exclusively at the trader’s disposal, as no one else has the right to do anything with them. In a margin account, the broker can loan the shares you purchased to another trader who opens a sell deal. All this is specified in the contract and is implemented through so-called REPOs, which are short-term agreements that allow the seller to sell securities to the buyer with the obligation to buy back those securities at a specific date at a pre-agreed price. Buybacks are mainly used for short-term borrowing and investing) as the trader receives a commission as the owner of the shares. These moments carry certain risks, but each can be managed.
Advantages of trading CFDs:
- Lack of strict requirements for minimum initial investment; The minimum deposit ranges from 50 to 100 dollars.
- Leverage is provided regardless of the trader’s qualifications.
- There is negative balance protection. CFD trading accounts combine the benefits of margin and cash accounts.
- Immediate execution of trades. Any asset can be bought or sold within milliseconds. There is no settlement period according to the T + 2 system unless the financial market conditions stipulate otherwise.
- More than 200 assets available for trading, including cryptocurrencies.
However, CFD trading carries the same risks as margin trading. These risks must be taken into account when establishing a risk management system.
