The starting margin is determined by the exchange, so you don’t have to calculate it. If the initial margin is given to you as a percentage, convert it to a decimal and multiply it by the overall position size. For example, if you want to trade $10,000 worth of futures contracts with a 25% initial margin requirement, multiply $10,000 by 0.25 to get $2,500 as your initial margin requirement.
How are margin requirements for futures determined?
Why are margins required when buying or selling a futures contract? Futures trading is risky since price movements can go against you. If you buy Nifty futures at a price of 10,300 and the Nifty drops to Rs.10,200, you will lose money, and that is the risk you are taking. Markets are inherently volatile, and these margins are essentially gathered to mitigate the risk of market volatility. So, what exactly is futures margining and how does it work? In general, there are two sorts of margins that are gathered. You must pay the Initial Margin on the trade (SPAN + Exposure margin) at the time of taking the position.
The SPAN margin is calculated using the VAR statistical concept (Value at Risk). Essentially, the initial margin should be wide enough to absorb the loss of your position in 99 percent of circumstances. There will be days when the Black Swan appears, but that is a separate matter. The initial margin is calculated using the portfolio’s maximum possible loss in a single day. The higher the stock’s volatility, the higher the risk, and thus the higher the initial margin. The mark-to-market (MTM) margin, which is collected for daily fluctuation in the price of futures, is the second form of margin. The first margin only considers the danger of a single day. If the stock continues to move against you (falling when long, rising when short), the MTM will be collected on each succeeding day. So, how does the futures margin in practice work? Let’s look at a live example of Initial Margins and MTM margins to learn more about margins on futures contracts.
The starting margin is calculated as the total of the SPAN and Exposure margins in the chart above. The stock exchange determines the minimum margins required for each given position. Brokers are allowed to collect more than this margin, but they are not allowed to collect less. The ACC contracts for November, December, and January are considered in the table above. As the contract matures further into the future, the margins will increase due to increased risk. The three types of initial margins levied by the broker on your futures account are what matters here. Let’s look at the specifics of this futures margin example.
This is the standard margin that must be charged if you want to carry your futures trade ahead beyond the day. Depending on the risk and volatility of the stock, the initial margin for a Carry Forward trade typically ranges from 10% to 15% of the contract’s notional value. In the example above, the notional value of the futures contract for the November 2017 contract is Rs.708,580/- (1771.45 X 400). The initial margin is collected at Rs.89,338/- per lot on that notional value, which works out to 12.61 percent of the notional value. As previously stated, the percentage of initial margin for a futures position will be determined by the stock’s volatility and risk.
The standard margin is for a futures position that you intend to continue over to the next day. But what if you want to close the position inside the day? The initial margins (MIS) will be lower because the risk is lower. The initial margin for intraday index futures is set at 40% of the usual initial margin, whereas the initial margin for intraday stock futures is set at 50% of the normal initial margin. In the example above, the margin will be half of the regular margin, or Rs.44,669/-. Margin Intraday Square-off (MIS) margin is the name given to this margin.
The BO/CO margin is the third category, and it is even lower than the MIS margin. The Bracket Orders and Cover Orders are the two types of orders. The intraday trade in a cover order is required to have an in-built stop loss. The Bracket Order takes it a step further by defining a stop loss as well as a profit target, resulting in a closed bracket order. The margin in this situation will be 30-33 percent of the typical margins, which is Rs.28,343/- in the case of ACC.
One thing to keep in mind is that in the case of MIS orders, CO orders, and BO orders, your broker’s risk management system (RMS) will typically close out any open positions 15-30 minutes before the close of stock market trading on the same day.
MTM (Mark to Market) margin is a type of accounting adjustment. If you bought Tata Motors futures at Rs.409, you don’t have anything to worry about as long as the price stays over Rs.409. When Tata Motors’ market price falls below Rs.409, the MTM problem would arise. There are two scenarios here as well. To begin, most brokers will verify if your margin amount is sufficient to cover the SPAN margin if the price drops to Rs.407 or lower. (Remember that SPAN + Exposure Margin equals Initial Margin.) That’s still fine. If the stock price falls below Rs.395, on the other hand, your margin balance is likely to go below the SPAN Margin. The broker will then issue a Margin Call, requesting that you settle the margin deficit, and if you are unable to do so, your position will be closed out by the RMS. MTM margins only apply to carry forward contracts; they do not apply to intraday, BO, or CO positions.
So that’s everything there is to know about margins in futures contracts. The example of futures margins above demonstrates how futures margins function in practice. In a nutshell, it’s a risk mitigation strategy!
What is the margin required formula?
Margin Requirements Calculation Multiply the number of shares X the price X the margin rate to find the margin necessary for a lengthy stock buy. A short sale’s margin requirement is the standard margin requirement plus 100 percent of the security’s value.
What is the margin requirement for futures trading?
- Futures and FX traders frequently trade on margin, which refers to the practice of paying only a portion of an investment’s price, referred to as the margin.
- The margin requirements for futures trading can be as low as 3% to 12% of the traded contract value.
- The initial margin is the amount that a trader must deposit with their broker in order to open a position.
- The maintenance margin, which is commonly 50 percent to 75 percent of the initial margin, is the amount of money a trader must keep on deposit in their account to continue holding their position.
- If the funds in a margin account go below the maintenance margin level in futures trading, the trader will receive a margin call, asking the trader to immediately contribute more money to bring the account back up to the initial margin level.
What does the necessity of a 30 margin mean?
While the market value of the stocks used as collateral for the margin loan fluctuates, the amount you borrowed remains constant. As a result, if the stocks decline in value, your equity in the position will decrease in proportion to the magnitude of your margin debt.
This is crucial to understand because brokerage firms demand margin traders to keep a specific proportion of their account equity as collateral against the assets they have purchasedtypically 30 percent to 35 percent, depending on the securities and brokerage firm.
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Your brokerage firm will issue a margin call (also known as a maintenance call) if your equity falls below the required level due to market fluctuations, and you will be required to immediately deposit more cash or marginable securities in your account to bring your equity back up to the required level.
Assume you have $5,000 in shares and want to acquire $5,000 more on margin. Your position’s equity is $5,000 ($10,000 minus $5,000 in margin debt), giving you a 50% equity ratio. If your stock drops to $6,000, your equity drops to $1,000 ($6,000 in stock minus $5,000 in margin debt), resulting in an equity ratio of less than 17%.
The account’s minimum equity would be $1,800 (30 percent of $6,000 = $1,800) if your brokerage firm’s maintenance requirement is 30 percent. As a result, you would be required to make the following deposits:
- $800 in completely paid marginable securities, or $1,143 in fully paid marginable securities (the $800 shortfall divided by $1143).
How is the margin call determined?
What is a Margin Call, and how does it work? When the value of an investor’s margin account slips below the account’s maintenance margin requirement, a Margin Call occurs. To meet the margin call, an investor must liquidate positions or deposit dollars or securities. Firstrade will have to liquidate its positions to pay the margin call if the investor fails to cover the margin call within three trading days.
You have a total of $20,000 in securities that you purchased with $10,000 borrowed and $10,000 in cash. When the margin requirement is 30% and the value of the assets drops 40% to $12,000, your personal equity is $2,000, which is less than the 30% minimum margin need because the amount you borrowed from your broker remains at $10,000.
When the percentage of the account’s equity falls below the required maintenance margin, a margin call happens.
When a Margin Call happens, you have the option of depositing funds or liquidating a portion of the positions you bought on margin to cover the margin call.
You can reduce your margin and raise your equity by depositing funds. When you deposit $1,600 in cash, your account balance changes to $3,600 cash and $8,400 margin.
By selling stocks, you reduce the amount of margin and thereby increase the equity proportion.
In general, if you want to deposit money, the amount must be equivalent to the amount of the margin call. If you decide to sell your stocks to cover the margin call, the amount you must sell should be equal to the margin call amount divided by the minimum maintenance requirement.
To meet the 30% minimum margin requirement, you must sell $5,333.3 worth of stocks or deposit $1,600 worth of cash within three trading days, or your positions will be liquidated by Firstrade.
What is the Nifty futures margin requirement?
The Nifty Index is a basket of 50 equities, as you may know. These stocks were chosen to reflect a broad range of India’s economic sectors. As a result, Nifty is a good indicator of India’s overall economic activity. This indicates that if overall economic activity is increasing or expected to increase, Nifty’s value will increase as well, and vice versa. Trading Nifty Futures is also a better option than trading single stock futures because of this. There are numerous causes for this, including the following:
- It is diversified Taking a directional judgment on a single stock might be difficult at times, primarily due to risk considerations. Let’s imagine I decide to invest in Infosys Limited in the hopes of seeing positive quarterly results. If the findings fail to impress the markets, the stock, as well as my profit and loss, will suffer. Nifty futures, on the other hand, has a 50-stock portfolio that is well-diversified. The Index’s movement is not entirely dependent on a single stock because it represents a portfolio of stocks. Of course, a few stocks (index heavyweights) can have an impact on Nifty from time to time, but not on a daily basis. To put it another way, when you trade Nifty futures, you eliminate all ‘unsystematic risk’ and just deal with’systematic risk.’ I understand that these are new terminology for you; we’ll go over them in further depth when we talk about hedging.
- Hard to manipulate – The Nifty movement is a reaction to the collective movement of India’s top 50 companies (by market capitalization). As a result, manipulating the Nifty index is practically impossible. Individual stocks, on the other hand, are a different story (remember Satyam, DHCL, Bhushan Steel etc)
- Liquidity (easier fills, minimal slippage) We talked about liquidity previously in the chapter. Because the Nifty is so liquid, you can literally trade any amount of it without fear of incurring a loss due to impact costs. Furthermore, there is so much liquidity that you can transact as many contracts as you like.
- Margin requirements are substantially lower for Nifty futures than for individual stock futures. To put things in context, Nifty’s margin requirement is from 12 to 15%, but individual stock margins might be as high as 45-60%.
- Trading the Nifty futures necessitates the use of a broad-based economic call rather than company-specific directional recommendations. Performing the former is considerably easier than the latter, in my opinion.
- Technical Analysis – Technical Analysis is most effective on liquid instruments. Because liquid equities are difficult to manipulate, they often move in accordance with market demand-supply dynamics, which is what a TA is primarily focused on.
- Less volatile When compared to individual stock futures, Nifty futures are less volatile. To put things in perspective, Nifty futures have an annualized volatility of roughly 16-17 percent, whereas individual equities, such as Infosys, have an annualized volatility of up to 30 percent.
Is it possible to trade futures without using margin?
Although you must have enough in your account to cover all day trading margins and variations that come from your positions, there is no legal minimum balance you must maintain to day trade futures. The day trading margins differ from broker to broker.
What do futures margins entail?
When you open a futures contract, you must deposit and keep on hand a certain amount of money with your broker. You do not own the underlying commodity, and it is not a down payment. Margin is a phrase that is used in a variety of financial markets.
Is it a smart idea to trade on margin?
Margin trading has a higher profit potential than standard trading, but it also comes with a higher level of risk. The repercussions of losses are amplified when buying stocks on margin. A margin call, which asks you to sell your stock position or front more funds to keep your investment, may also be issued by the broker.