What is 'Cash Trading'

Cash trading is a method of buying or selling securities by providing the capital needed to fund the transaction without relying on the use of margin. Cash trading is achieved using a cash account, which is a type of brokerage account that requires the investor to pay for securities within two days from when the purchase is made.

BREAKING DOWN 'Cash Trading'

Cash trading is simply the buying and selling of securities using cash on hand rather than borrowed capital or margin.

Trades placed in cash accounts require up to three business days for the funds to fully settle before they can be used to buy and sell again. The settlement process involves transferring the securities to the buyer’s account and the cash into the seller’s account. Good faith violations occur when the purchase of a security uses funds that haven’t settled and restrictions can be imposed in cases where there are multiple good faith violations.

The rules governing cash accounts are contained in Regulation T, which prohibits the practice of “free riding” or investors buying and selling securities before paying for them from their cash account. The rules state that broker’s must freeze cash accounts for 90-days following these infractions, requiring the investor to fund securities purchases with cash on the trade date.

Cash Trading Accounts

Most brokers offer cash trading accounts as a default account option. Since there’s no margin provided, these accounts are much simpler to open and maintain than margin accounts. The lack of margin makes these accounts inappropriate for most active traders, but long-term investors may use these accounts as a standard option since they don’t typically buy securities on margin or require rapid trading settlements.

Benefits & Drawbacks

Cash trading doesn't involve the use of margin, which means they tend to be safer than margin trading. For instance, a trader that purchases $1,000 worth of stock in a cash account can only lose the $1,000 that they invested, whereas a trader that purchases $1,000 worth of stock on margin could potentially lose more than their original investment. Cash trading also saves traders money in interest costs that would be incurred with margin accounts.

The downside of cash trading is that there is less upside potential due to the lack of leverage. For instance, the same dollar gain on a cash account and margin account could represent a 50% difference in percentage return since margin accounts require less money down. Another potential downside is that cash accounts require funds to settle before they can be used again, which is a process that can take several days at some brokerages.

RELATED TERMS
  1. Trading Account

    1. An account similar to a traditional bank account, holding ...
  2. Trading Margin Excess

    The funds that remain in a margin trading account that are available ...
  3. Initial Margin

    Initial margin is the percentage of the purchase price of securities ...
  4. Long Market Value

    The long market value is the current market value of the securities ...
  5. Excess Margin Deposit

    An excess margin deposit is cash or equity in a margin trading ...
  6. Minimum Margin

    Minimum margin is the initial amount required to be deposited ...
Related Articles
  1. Trading

    Margin Trading

    Find out what margin is, how margin calls work, the advantages of leverage and why using margin can be risky.
  2. Investing

    Cash: Can A Company Have Too Much?

    Cash is something companies love to have. But if they are not using it there could be problems.
  3. Investing

    Leveraged Investment Showdown

    Margin loans, futures and ETF options can all mean better returns, but which one should you pick?
  4. Investing

    Spreading The Word About Portfolio Margin

    An underused opportunity provided in an SEC rule can enhance returns and lower risk for spread traders.
RELATED FAQS
  1. How much can I borrow with a margin account?

    Understand the basics of margin accounts and buying on margin, including what amount investors can typically borrow for purchases ... Read Answer >>
  2. Where Do Companies Keep Their Cash?

    Cash and cash equivalents are the first items on a company's balance sheet, but they are not same. Read Answer >>
Hot Definitions
  1. Inflation

    Inflation is the rate at which prices for goods and services is rising and the worth of currency is dropping.
  2. Discount Rate

    Discount rate is the interest rate charged to commercial banks and other depository institutions for loans received from ...
  3. Economies of Scale

    Economies of scale refer to reduced costs per unit that arise from increased total output of a product. For example, a larger ...
  4. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  5. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  6. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
Trading Center