Initial Margin

The futures markets are well known for their capacity to provide leverage. Very large positions can be established with a relatively small about of capital although it is not necessary to use any leverage at all. The extent of the leverage is simply the ratio between the amount of margin on deposit relative to the total notional value of the positions held.

The margin system in the futures markets is very different from that of the securities markets. In the securities markets leverage is achieved by using existing assets as collateral to borrow additional funds from the brokerage firm. This loan is then used to further extend positions in the marketplace. In the futures markets there is no such loan. Instead, the margin is collateral or good faith deposit set aside to ensure that the terms of the futures contract can be met. The margin rate is not a payment, rather it is a deposit. The futures exchange determines a minimum margin rate that all firms must apply to each futures position.

After a position is established movements in the market will start to be reflected in the client account. At the end of each day the cash balances in each client account is adjusted to reflect unrealized gains or losses. If negative movements erode the cash balance below the margin requirement the client will be expected to either deposit more funds into the account or liquidate the position. If the market moves in a positive direction the client has access to excess margin prior to liquidating the position. Typically clients hold substantially more than the minimum margin requirement to support their positions. It is important to know that losses in the futures markets are not limited to the margin requirement. In extreme cases the market can move such that all of the margin deposit can be consumed in a single trading session.

Spread Margins

One of the great advantages provided by the futures industry is the dynamic way the margin requirements are determined when combining similar futures contracts. This increases the range of strategies available to speculative traders. Spread margin rates make it possible for traders to leverage up strategies making it economically feasible to capture small relative price fluctuations between similar contracts. Click here to find the spread margin rates for the Chicago Mercantile Exchange.

SPAN is an algorithm that calculates margin rates that apply to options strategies or portfolios of options and futures contracts. The SPAN margin calculation is complex, but your futures specialist can help you understand the margin implications of a particular option strategy. Click here to learn more about the SPAN margin system.