Recently, I saw someone discuss margin liquidation again, which reminded me of the guy who lost money the fastest a few years ago—Bill Hwang. This guy is truly a legend on Wall Street; he lost 20 billion dollars in just two days. It’s not an exaggeration; it really happened.

At the time, many people only said he “liquidated,” but the real scary part was the underlying logic behind it. He didn’t just lose money easily; he was forced to liquidate by his broker, and this action triggered a chain reaction that caused market turbulence. This is what we often call a margin call or liquidation.

First, let’s clarify what a margin call actually means. Simply put, a margin call is when you buy stocks on margin, and if the stock price drops to a certain level, the broker fears they won’t be able to recover the loaned money, so they forcibly sell your stocks. It sounds ruthless, but that’s the rule.

Let me give a real example. Suppose you’re bullish on a stock, currently priced at 150 dollars, and you only have 50 dollars in cash. No problem, the broker can lend you 100 dollars, allowing you to buy one share. If the stock rises to 160 dollars, you sell, pay back the loan, and make a 19% profit, far exceeding the 6.7% increase of the stock itself. But conversely, if the stock drops to 78 dollars, the broker can’t sit still. They will require you to add more margin, meaning you need to deposit more funds. If you don’t have the money to top up, the broker will sell your stocks directly, whether you agree or not. This forced sale, from an investor’s perspective, is called a margin call or liquidation.

In Taiwan’s stock market, investors typically put up 40%, and brokers cover 60%. When the initial stock price is 100 dollars, the margin maintenance rate is 167%. Once the maintenance rate drops below 130%, meaning the stock falls to 78 dollars, the broker will start margin calls. If you don’t have time to add funds, your stocks will be sold off immediately.

Once this wave of liquidations begins, its impact on the stock price is chain-like. Retail investors seeing the price drop may hesitate to sell, but brokers won’t. They just want to unload quickly, usually at market price, and won’t set high bids for you. So, when a stock crashes due to margin calls, its price often overshoots to very low levels, triggering another wave of liquidations. Long investors should avoid these stocks, but short sellers can take advantage of the opportunity to profit.

There’s another problem after liquidation. The stocks sold off by brokers flow into retail investors’ hands, and retail investors tend to be short-sighted, buying and selling on small fluctuations, which scares away big funds. As a result, the stock continues to drift downward until some major positive news attracts capital back. So, stocks after a margin call are usually not recommended for short-term trading.

Back to Bill Hwang’s story. He was a hedge fund manager whose strategy was to pick promising companies and amplify gains with heavy leverage—using margin to buy. This approach allowed his assets to grow from 220 million to 20 billion dollars in ten years, making him a big player on Wall Street. But high leverage is most afraid of black swan events. In early 2021, the stock market experienced huge volatility, and his holdings faced significant turbulence. Brokers, protecting themselves, directly forced liquidation.

The problem was, he held such a massive amount of stock that the market simply didn’t have enough buying power to absorb the sell-off. When his stocks were dumped, prices plummeted, triggering margin calls for others. This not only affected underperforming stocks but also caused even stable holdings to be forcibly liquidated by brokers to maintain margin requirements. In the end, all his stocks plunged sharply in a short period, creating a full-blown storm.

Is margin really unusable? Not necessarily. Proper use of margin can make capital more efficient. For example, if you’re bullish on a company but have limited funds, you can buy in stages with margin. If the stock rises, you profit; if it continues to fall, you still have funds to average down. But the key is to choose stocks with sufficient liquidity, meaning large-cap stocks. Small stocks, once heavily margined, are more prone to violent swings during liquidations.

Also, remember that margin involves paying interest, so the investment horizon and stock selection are crucial. Some stocks hardly fluctuate, and the dividends are eaten up by interest costs, making margin less worthwhile. Additionally, when a stock consolidates at resistance or support levels, using margin to buy can lead to long periods of sideways movement, during which you still pay interest. It’s advisable to take profits when hitting resistance and cut losses if breaking support.

Ultimately, leverage is a double-edged sword. When used well, it can accelerate wealth accumulation; when misused, it speeds up losses. Buying stocks on margin is inherently a high-risk strategy, with the risks of margin calls and liquidation always present. Before investing, thorough research is essential to avoid exposing yourself to unknown risks. Discipline is the key to long-term success.