In the investment industry, investors may borrow money from a brokerage firm. Investors can use this loaned money for anything they want outside of their accounts, within certain limitations. They may also purchase additional securities with the borrowed money, called “buying on margin.” While borrowing money from a brokerage firm is allowed, it’s not without risk. One such risk is a firm or broker taking advantage of the client and encouraging excessive use of margin to increase their profits.
How a Firm May Take Advantage of Clients
Brokers and their firms can earn a substantial amount in fees based on the money clients borrow on margin. Brokers and firms make additional money from the amount of time the loan remains outstanding, and they earn commissions on top of these fees if the client purchases more securities using margin. With so much potential to profit riding on a client’s loans, it’s easy to see that brokerage firms have an incentive to recommend excessive use of margin to clients.
The loan is only available if investors use the value of their securities as collateral. As with any other type of loan, an investor must repay the borrowed money with interest. The longer the investor’s loan remains outstanding, and the larger the loan, the more money the brokerage firm makes. Thus, many fraudulent firms and brokers may encourage an investor to take loans, failing to explain the unique risks that using margin involves.
If, for example, the investor’s securities he or she used as collateral to support a margin loan decline, the broker may demand a margin call, when a client must deposit additional funds to pay the loan. The investor may also have to sell some securities to make up the payments, at the most inopportune time on the market. If the value of the securities drops low enough, the client may lose the entire original investment and have to repay the loan – plus interest. In addition, buying securities on margin relies on the hope they will perform well enough to cover the purchase price and the interest rates as well as commissions. Otherwise, the investment will end up costing money.
When to Speak to an Attorney
There are many risks involved in margin loans with brokerage firms. It’s up to your broker or financial advisor to be truthful with you and explain the potential risks. If your broker advised you to use excessive margin in your account, or if the firm is demanding you repay a loan your broker recommended in a margin call, you might want to speak with an attorney. You might be the victim of broker or firm misconduct.
The best time to speak with an attorney regarding possible broker misconduct is the moment you suspect wrongdoing. The faster you complain, the better your chances of recovering damages will be. Securities fraud is incredibly serious and could cost you hundreds of thousands of dollars. If you’ve experienced losses due to a margin loan that your broker encouraged you to use, the brokerage firm may be guilty of fraud. Click here to see other cases we handle involving broker misconduct.
Contact Erez Law today to speak with a securities fraud lawyer about your situation. Our lawyers can give you our professional advice as to what to do next and how to approach the situation with your broker. If your broker intentionally took advantage of you, we can help you file an arbitration claim with the Financial Industry Regulatory Authority (FINRA). Get in touch with us today for a free case evaluation.