Exchanges establish starting margin requirements for futures contracts as low as 5% or 10% of the contract to be traded. A futures account holder can open a long position in a crude oil futures contract for $100,000 by posting only $5,000 initial margin, or 5% of the contract value. In other words, the account holder would have a 20x leverage factor if he or she met the original margin requirement.
What are the margin requirements 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.
Who sets the margin requirements for futures?
Futures exchanges, not brokers, decide futures margin rates. However, in order to reduce their risk exposure, brokerage firms will sometimes add an extra fee to the margin rate set by the exchange. 3 The margin is determined by the market’s stability (or lack thereof) and the risk of price changes.
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).
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 are the margin specifications?
The percentage of marginable securities that an investor must pay for with his or her own money is referred to as a Margin Requirement. Initial Margin Requirement and Maintenance Margin Requirement are two types of margin requirements. The Initial Margin Requirement for stocks is 50%, while the Maintenance Margin Requirement is 25%, according to Federal Reserve Board Regulation T, though greater requirements for both may apply for particular assets.
The percentage of equity required when an investor opens a trade is referred to as an Initial Margin Requirement. For instance, if you have $5,000 and want to buy stock ABC, which requires a 50% initial margin, the quantity of stock ABC you are qualified to buy on margin is computed as follows:
>>You can use your margin buying power to acquire up to $10,000 worth of stock ABC.
The minimum margin requirement for most stocks at Firstrade is reduced to 25% when an investor retains shares purchased on margin in order to allow for some price fluctuation. The Maintenance Margin Requirement is what it’s called. A margin call occurs when the investor is unable to keep his or her equity above the required maintenance margin.
As an example, you have $20,000 in securities that you purchased with $10,000 in cash and $10,000 on margin. If the overall value of your investment falls to $14,000 and the amount you borrowed on margin remains at $10,000, your equity worth will be only $4,000, which is less than the required 25% margin.
When an investor’s account is concentrated, the 25 percent maintenance margin requirement is waived. When a single position is equal to or greater than 60% of the total marginable market value, the account is called a concentrated account. When the account is concentrated, the maintenance margin need remains at 50% due to the increased risk of fluctuation.
The current price of stock ABC is $100, according to the example given when introducing the initial margin need. You now own 100 shares of stock ABC, which you purchased with $5,000 in cash and $5,000 in borrowed funds. If the price of stock ABC falls from $100 to $90, the total value of your holding increases to $9,000, and the amount borrowed on margin remains at $5,000, your equity is now only $4,000, which is less than the 50% minimum margin requirement for concentrated accounts.
Certain securities have greater margin requirements, and the initial and maintenance margin requirements will be the same. For more information, see the Special Margin Requirement chart.
What is the difference between futures and margin?
Margin trading, in essence, magnifies trading results so that traders can profit more from good deals. A futures contract is a contract to buy or sell an underlying asset in the future at a fixed price.
How is the initial margin determined?
To get the total purchase price, multiply the price per share by the number of shares you want to buy. Multiply the purchase price by the percentage of the initial margin needed. Assume you want to purchase 500 shares of a stock for $40 each. The cost of the purchase is $20,000. If you need a margin of 65 percent, multiply $20,000 by 65 percent to get a $13,000 beginning margin requirement.
Understand How Margin Works
Let’s imagine you buy a stock for $50 and it rises to $75 in value. If you acquired the stock in cash and paid for it in full, you’ll get a 50% return on your investment (i.e., your $25 gain is equal to 50% of your $50 initial investment). However, if you bought the stock on margin paying $25 in cash and borrowing $25 from your broker you’ll get a 100% return on your investment (i.e., your $25 gain is equal to your initial $25 investment).
*For the sake of simplicity, the interest you’d owe your broker on the $25 margin loan you used to buy this stock is not included in this example. Your actual return would be significantly less than 100 percent after paying this interest to your broker.
The disadvantage of employing margin is that if the stock price falls, big losses can quickly accumulate. Let’s imagine you bought a stock for $50 and it drops to $15. You would lose 70% of your money if you bought full price for the stock. If you bought on margin, though, you would lose more than 100% of your money. You would owe your broker an additional $10 plus the interest on the margin loan, in addition to the total loss of your $25 initial investment.
Investors who put up an initial margin payment for a stock may be asked to submit further cash or securities to the broker from time to time if the stock’s price declines (a “margin call”).
Some investors have been surprised to learn that their brokerage business has the power to sell securities purchased on margin without prior notice and at a large loss to the investor.
If your broker sells your stock after it has dropped in value, you will miss out on the opportunity to recuperate your losses if the market recovers.
Recognize the Risks
Margin accounts can be quite dangerous, and they are not suitable for everyone. Before you open a margin account, you should be aware of the following:
- To cover market losses, you may need to put additional cash or securities into your account on short notice.
- When the value of your securities is reduced by declining stock prices, you may be forced to sell some or all of them.
- To repay your margin loan, your brokerage firm may sell part or all of your stocks without informing you.
- You have no say in whatever stocks your brokerage business sells in your account to pay off your margin loan.
- Your brokerage business is not compelled to provide you early notice if it decides to increase its margin requirements at any time.
- Understanding how a margin account works and what happens if the price of the securities bought on margin falls in value.
- Understanding how interest charged by your broker for borrowing money affects the total return on your investments.
- Inquire with your broker about whether trading on margin is right for you based on your financial resources, investment goals, and risk tolerance.
Read Your Margin Agreement
Your broker will require you to sign a margin agreement in order to open a margin account. The margin agreement may be included in or distinct from your general brokerage account opening agreement.
The margin agreement specifies that you must follow the margin rules set forth by the Federal Reserve Board, self-regulatory organizations (SROs) like FINRA, any applicable securities exchange, and the firm where you opened your margin account. Before you sign the contract, make sure you read it well.
The margin agreement, like other loans, defines the terms and conditions of the margin account.
The agreement, for example, explains how the loan’s interest is calculated, how you are accountable for repayment, and how the assets you buy act as collateral for the loan.
Examine the contract carefully to see what notice, if any, your firm is required to give you before selling your stocks to repay the money you borrowed or changing the terms and conditions under which interest is computed.
Changes in the method of computing interest must be communicated to customers at least 30 days in advance.
Know the Margin Rules
Margin trading is governed by rules established by the Federal Reserve Board, SROs such as FINRA, and stock exchanges. Brokerage firms can form its own organizations “house” criteria that are more stringent than those set forth in the guidelines. Here are some of the most important rules to remember:
Before trading on margin, FINRA, for example, requires you to deposit a minimum of $2,000 or 100% of the purchase price of the margin securities, whichever is less, with your brokerage firm.
This is referred to as the “The bare minimum.”
Some companies may demand a deposit of more than $2,000.
You can borrow up to 50% of the purchase price of margin securities, according to Federal Reserve Board Regulation T.
This is referred to as the “The first margin.”
Some companies demand a deposit of more than 50% of the buying price.
FINRA rules oblige your brokerage firm to enforce a margin call once you purchase margin securities “On your margin account, there is a “maintenance need.”
This is a good example “The “maintenance requirement” establishes the minimum amount of equity in your margin account that you must maintain at all times.
The value of your shares less the amount you owe to your brokerage business is the equity in your margin account.
This is required by FINRA rules “At least 25% of the total market value of the margin securities is required as a “maintenance requirement.”
Many brokerage houses, on the other hand, have higher maintenance needs, ranging from 30 to 40%, and sometimes even more, depending on the type of assets purchased.
Here’s how maintenance needs operate in practice.
Let’s say you borrow $8,000 from your firm and spend $8,000 in cash or securities to buy $16,000 worth of securities.
If the market value of the shares you bought falls to $12,000, your account equity will decline to $4,000 ($12,000 – $8,000 = $4,000).
If your company requires a 25% maintenance fee, you’ll need $3,000 in your account (25 percent of $12,000 = $3,000).
In this situation, you have enough equity because the $4,000 in your account exceeds the $3,000 required for upkeep.
However, if your company requires 40% maintenance, you will not have enough equity.
You’d need $4,800 in equity (40 percent of $12,000 = $4,800) to work at the firm.
The firm’s $4,800 maintenance cost is less than your $4,000 in equity.
As a result, since your account’s equity has fallen $800 below the firm’s maintenance minimum, the firm may issue you a “margin call” to deposit extra equity into your account.
Understand Margin Calls You Can Lose Your Money Fast and With No Notice
If your account falls below the business’s minimum maintenance requirement, your firm will usually make a margin call and ask you to deposit more cash or securities. When a margin call occurs, you won’t be able to buy any more securities in your account until the margin call requirements are met. If you fail to meet the margin call, your firm will sell your securities to bring your account’s equity up to or over the firm’s minimum maintenance requirement.
Your broker, on the other hand, may not be compelled to initiate a margin call or otherwise notify you if your account falls below the firm’s minimum maintenance requirement.
Your broker may be able to sell your securities without your permission at any time.
Even if your firm offers to give you time to boost your account’s equity, most margin agreements allow it to sell your securities without waiting for you to meet the margin call.
Options Trading Using Margin
Using margin to trade options can put you at danger of losing a lot of money. To trade options, most brokerage firms need you to have a margin account, but you cannot use margin to purchase options contracts. However, certain brokerage houses may allow you to sell (or write) options contracts on margin. Selling options contracts as part of an options strategy can result in big losses, and using margin can amplify those losses. Some of these tactics may put you at risk of losing more than your initial investment (i.e., you will owe money to your broker in addition to the investment loss). Read our Investor Bulletin “Leveraged Investing Strategies – Know the Risks Before Using These Advanced Investment Tools” for more information on options trading on margin.
Interest Charges Money is not free
Margin loans, like other loans, have an interest component. This interest affects your investment return directly, raising the amount your investment must earn to break even. Interest rates at brokerage firms might differ significantly. Remember to think about this cost before you open a margin account.
Account Transfers
If you intend to move securities from a margin account to another brokerage firm, be sure you are familiar with the procedures for transferring securities out of these accounts at your current brokerage firm. When a margin account has an outstanding margin loan, many firms will not enable you to move any securities out of the account. These rules are usually spelled out in your account agreement or in a separate margin agreement that you signed when you first opened the margin account. Before transferring securities from a margin account, ask your present firm to provide and explain these rules to you. Please read our Investor Bulletin: Transferring Your Investment Account for more information on account transfers.
Margin in Fee-Based Accounts
Some investment accounts charge an asset-based fee (annually, quarterly, or monthly) equivalent to a percentage of the market value of the securities in the account, rather than charging for individual transactions. Remember that the asset-based charge is normally based on the value of all assets in the account and does not account for the debt used to purchase margin securities if you utilize margin in these accounts.
Margin Loans Carefully Consider the Risks of Using Margin Loans for Non-Securities Purposes.
Some brokers may allow you to use margin loans for a range of personal or company financial goals, including as purchasing real estate, paying off personal debt, or supplying capital, in addition to purchasing stocks. The use of margin loans for non-securities purposes has no effect on how they work. These loans are still backed by the securities in your margin account, and as a result, they are subject to the same risks as buying securities on margin. These loans have different terms and conditions depending on the broker, but they are usually listed in the margin agreement. Before using these loans for any non-securities purpose, you should carefully examine the margin risks stated above, as well as any fees that may be connected with them.
Securities Lending
If the investor has any outstanding margin loans in the account, some margin accounts allow the brokerage company to lend out securities in the account to a third-party at any time without warning or reimbursement to the account holder. While your shares are being lent out, you may lose the voting rights that come with them. Any dividends associated to leased out shares will still be paid to you. The payment you get, however, may be taxed differently because you are not the actual holder of the shares. Inquire if your brokerage firm’s margin accounts allow for securities lending, and if so, how it works and how it can affect the securities in the account.
Pattern Day Trader Margin Requirements
For a consumer, this is a big deal “FINRA mandates the broker to impose extra margin restrictions on the customer’s margin account if the customer is a “pattern day trader.” In general, these include a $25,000 minimum equity requirement and a restriction that limits the purchase power of equity securities in the margin account to four times the maintenance margin excess as of the preceding day’s close of business. For more information on these, go here “Please see our Investor Bulletin: Day Trading Margin Rules for pattern day traders’ margin requirements.
Additional Resources
Investor Information Bulletin “Know the Risks of Leveraged Investing Strategies Before Using These Advanced Investment Tools.”
Please read our Investor Bulletin: Margin Rules for Day Traders for more information on margin rules for day traders.
“Purchasing on Margin, Risks Involved with Trading in a Margin Account” and “Understanding Margin Accounts, Why Brokers Do What They Do” are FINRA investor bulletins.
White Paper from the SEC’s Division of Economic and Risk Analysis “Margin Traders’ Financial Ignorance and Overconfidence.”
Visit Investor.gov, the SEC’s website for individual investors, for more information on investor education.
Investor Alerts and Bulletins are sent to you through email or RSS feed from the OIEA.
OIEA can be followed on Twitter.
On Facebook, follow OIEA.
Key Questions You Should Consider Before Buying Securities in a Margin Account
- Do you realize that margin accounts carry a lot greater risk than cash accounts, where you pay in full for the securities you buy?
- Are you aware that when you buy on margin, you risk losing more than the amount you initially invested?
- Have you asked your broker about how a margin account works and whether trading on leverage is right for you?
- Are you aware of the charges associated with borrowing money from your company and how these costs effect your overall return?
- Are you aware that if you don’t have enough equity in your margin account, your brokerage business can sell your shares without notifying you?
What are the Class 12 margin requirements?
The difference between the current value of the security submitted for loan (known as collateral) and the value of the loan issued is referred to as the margin requirement. It is a qualitative form of credit control used by the central bank to prevent inflation or deflation in the economy.
Is it necessary to have $25,000 to day trade futures?
Size of Account Required A pattern day trader must keep a minimum of $25,000 in their brokerage account if they do four or more round turns in a single security in a week. A futures trader, on the other hand, is not required to have a minimum account size.