Subject: Derivatives - Futures Margin

Last-Revised: 8 Apr 2009
Contributed-By: (Author unknown)
Originally in the misc.invest.futures FAQ by Dave Hein and Richard Hiatt. Reprinted by permission.

Commodity margins are good faith deposits which guarantee performance of futures contracts. Margins are normally set as a percentage of the full value of the contracts because futures transactions contemplate physical delivery or receipt of the underlying commodities at some later date.

Initial margin is the amount of money which a customer must deposit in his account whenever he establishes a commodity futures position. These margins must be deposited for both long and short positions.

Initial margins normally range from 5 to 20 percent of the full value of the futures contract. After depositing initial margin requirements, if the market moves in the customer's favor, the amount in excess of the initial margin requirements may either be withdrawn or used for margining additional positions. If the market moves against the customer, he or she will be required to deposit additional monies in their account. This is known as maintenance margin. A maintenance margin call is be issued when the customer's account value falls below the maintenance margin requirement, usually about 75% of the initial margin requirement. When this happens, the customer will have to deposit sufficient funds to bring the equity balance in the account back up to the level of initial margin requirements.

The various commodity exchanges establish initial and maintenance margin requirements for all commodity contracts traded. All firms, however, at their sole discretion, may establish higher margin requirements for specific commodities than the minimums required by the exchange. From time to time, the exchanges may adjust margin requirements on various commodity contracts.

Initial margin requirements

The initial deposit in the customer's account should provide sufficient funds for his initial trading activity. Initial margin calls may be caused by adding new positions or when the exchange or a firm increases requirements on a retroactive basis.

An initial margin call must be met by the prompt deposit of cash or transfer of funds from a related account or deposit of Treasury Bills or any combination of the above.

Initial margin may not be met with market appreciation occurring after the call is made or by the liquidation of the position which caused the call. In common practice, though, this is not strictly enforced.

Maintenance margin requirements

When the equity in a customer's account falls below the maintenance margin requirements a maintenance margin call is issued to restore the account equity to the initial margin requirement amount.

Maintenance margin calls can be met by cash deposits, deposits of Treasury Bills, transfer of funds from a related account, liquidation of positions, market appreciation or any combination of the above.

Variation Calls: During periods of extreme volatility or for very large positions, accounts can be called for margin at any time. This type of call must usually be met immediately by either a wire transfer or the liquidation of positions.

Margin call policy

In the case of an initial margin call, it is the obligation of the customer to immediately transmit adequate funds to satisfy the call.

In the case of option positions which produce debit equities but positive liquidating balances, the same rules as those relating to initial margin calls above apply.

In the case of a maintenance margin call, it is the obligation of the customer to transmit adequate funds in the same manner listed above, or the customer should notify the firm of some other course of action, such as liquidation of one or more open positions that will bring the account back to initial margin requirements. If the customer elects to liquidate open positions in order to meet a maintenance margin call, such liquidation should be completed immediately.

Day trades

A day trade is a transaction in which both sides of a trade (buy and sell) are executed during one trading session.

While there is no set policy with regard to margins on day trades and no requirement by the exchanges, most firms require that at least some margin be posted before trading commences. The amount of margin for day trading varies widely from firm to firm.

Delivery month margins

Trading in delivery month contracts for those commodities which could result in physical delivery involves a high degree of risk. If you must trade in a delivery month, be aware of the delivery process and the costs associated with delivery. For long positions, it is not unusual for a firm to ask for sufficient funds to cover the cost of delivery and for shorts positions, it is not unusual for a firm to ask for evidence that you are capable of making delivery.

Securities for margin

Treasury Bills are routinely accepted for margining of customer accounts. Many firms value a customer's T-Bill at a percentage of face value. Treasury Bonds, Notes, or other securities are not routinely be accepted.

T-Bills are useful for margining purposes. If the account remains at zero or has a positive cash balance the positions can be considered fully margined by the T-Bills in the account. If the account becomes debit cash then the customer will be probably be called for cash, have all or a portion of the bill sold, or charged interest on the cash deficiency.

The minimum purchase size of a T-Bill is $10,000 followed by increments of $5000. T-Bills are routinely purchased in maturity lengths of ninety days, six months or one year. Unspecified maturities are bought for ninety days.

Various firms will have different procedures regarding the purchase of T-Bills, and may allow only a portion of margin to be posted in Bills. There are also fees associated with the purchase AND sale of Bills. Depending on how much the cash in an account fluctuates. T-Bills may or may not be profitable.

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