Introduction for margins
Introduction to Margins: Leveraged Accounts
here are two types of leveraged accounts and they can upgraded or downgraded at any time: Reg T Margin and Portfolio Margin.
The account type is chosen during the account opening process.
The Portfolio Margin accounts require a lower level of margin (more leverage) for securities than the Reg T Margin account. However, for some portfolios, the Portfolio Margin account's leverage will be lower due to high levels of risk, because while the Portfolio Margin's margin calculation takes into consideration the portfolio level of risk based on all of the positions, the Reg T Margin's calculation is per position.
Investors can compare their current margins of their investment portfolios with those of a Portfolio Margin account by pressing the "TRY PM" button in the Account Window in the trading platform.
Securities margins are different from those of commodities. While securities margins are the amount of cash that the investor borrows, the commodities margins are the amount of cash that the client must "put aside" in order to maintain the positions.
The Definition of Margin for securitiesIn reference to securities, the definition of margin includes three important terms:
The margin loan - The margin loan is the amount that the investor borrows from the broker in order to purchase the securities.
The margin deposit - the margin deposit is the amount of equity that was contributed by the investor in order to purchase the securities in a leveraged account.
The margin requirement - the margin requirement is the minimal amount that the investor needs to deposit, and is expressed as percentages of the current market value of the transaction.
The deposit can be bigger or equal to the margin requirement. As seen in the following equation:
Margin Loan + Margin Deposit = the Market Value of the Transaction
Margin Requirement =/< Margin Deposit
If an investor is interested in trading on margin, he must first open a margin account and sign all of the related agreements. While trading on margin, an investor must always abide by the brokers’ margin rules and demands. failure to do so may require the client to deposit more funds or close a part or all of his positions.
"Initial Margins" and "Maintenance Margins"
The Federal Reserve and the self-regulatory organization (SRO's), such as NYSE and FINRA, have clear rules as to leverage trading. While trading with an American broker, the "Regulation T" law allows investors to borrow up to 50% of the value of purchased securities. The cash amount that the investor has to pay for the securities is called "Initial Margin".
The second type of margin is called "Maintenance Margin". Regulation requires every leverage account to hold a maintenance margin of at least 25% of the investor securities value. Day traders in the US markets have a minimum requirement of at least $25,000 or 25% of the securities value in the account if it exceeds $25,000.
If at any time an account drops below the maintenance margin requirement, the client must deposit funds to the account, or close some of his positions. , the broker might randomly close some of the positions in the account.
The brokers can also define their requirements for minimal margins, which are called "the house requirements". Certain brokers choose to ease the terms of the loan more than others, and the terms of the loans may change from one client to the other. However, the brokers must always act in the course of the parameters of the margin requirements which were set by the regulators (such as FINRA). Not all securities can be leveraged.
Buying with leverage might be a "double edged sword" that can translate into bigger profits or bigger losses. In the volatile markets, investors who borrowed from their broker, may need to supply additional margin if the price of the share changes fast. In these cases, the broker might change the margin requirements after sending a warning email. This is why monitoring your account while trading on margin is very important.
The Definition of Leveraged Commodities
The margins for commodities are the amount of equity that was contributed by the investor in order to support the futures.
The margin requirement for futures and future options are calculated according to an algorithm that is known as SPAN. SPAN (the analysis of a regular leveraged portfolio) estimates the risk in the portfolio by calculating the worst case scenario that a diversified portfolio may reasonably lose throughout a defined period of time (Usually one day). This is done by calculating the profits and the losses that may happen in different market conditions. The most important part in the methodology of the SPAN is the array of risk, which is a set of numeric values that estimates how a certain futures shall profit or lose under certain conditions. Each scenario is called a "risk scenario".
Initial Margins and Maintenance Margins for Commodities
Just like securities, commodities also have initial margins and maintenance margins. These margins are usually set by the exchanges as a percent from the futures which is based on the volatility and the price of the futures. The initial margin requirement for futures is an additional amount that an investor has to put as collateral in order to open a position. In order to be able to buy futures, an investor must meet the initial margin requirement.
Commodities maintenance margin is the amount an investor must maintain in his account in order to support the futures, and it represents the lowest value to which the account can reach before the investor needs to deposit additional funds. Commodities positions are checked on a daily basis, and the account is adjusted to each profit or loss that occurred. Since the price of basic commodities changes, it is possible that the value of the commodities may decline to a point that the balance of the account descends below the required value for maintenance. In such a case, the broker may close some of the positions in the account.
Real Time Margins
Interactive Brokers uses real time margins in order to allow the investor to know and control the account level of risk. The margin system checks the required margin for the account every few seconds and takes new and existing positions under consideration, in order to prevent loses from the investor's side as well as from the broker's side, which allows IB to take such low commissions.
One can check your required margins at any time from the Account Window on the trading platform.
Your account allows you to trade in securities and commodities/futures on the same account. Therefore, it is composed of two accounts; the securities account; which is subject to the rules of the U.S. Securities and Exchange Commission (SEC), and a futures account; which is subject to the laws of the US Commodity Futures Trading Commission (CFTC).
If you have assets in the securities account or in the futures account, these assets are protected by the U.S. law and by the federal regulations that determine the manner in which the brokers must protect the property and the funds. In your securities account, your assets are protected by the laws of SEC and SIPC, and in your futures account your assets are protected by the laws of CFTC, which demand that the funds of the client be separated from the broker private capital.
As part of our client service, all accounts in Interactive Brokers are authorized to automatically transfer the needed funds between the securities account and the futures account in order to control your margin needs. In the page "Excess Fund Sweep" in account management you can define how you want Interactive Brokers to handle the transfer of excess funds between the accounts.
Margin Requirement Models
The most common model for margin is the "Reg T Margin" account which considers every position as an individual position, meaning that the margin is calculated per position, with the exception of option strategies.
The second model is the "Portfolio Margin" account which calculates a level of risk for all of the positions in the account. Therefore, if you buy a stock from a certain sector and sell another stock from the same sector, the margin calculation might take that into effect and lower the margin requirements for the two positions.
Other models are used in different situations. For example, if a certain stock is highly volatile, shorting it might require more than 100% of the value of the trade due to other fees that the investor need to pay to keep the position (borrow fee for example).