Futures Margin Explained
For many traders, leverage may be one of the aspects that entices them into Futures trading. With leverage, traders can control high-value assets with a smaller amount of capital known as margin. This means that traders can potentially magnify their gains with a smaller amount of capital called margin, but it also means that they can potentially magnify their losses.
Accordingly, a margin is a fraction of the total value of a futures contract that is required to enter a position. This percentage of money serves different purposes and comes in different types of payments. Here’s what you need to know about Futures margin:
What Is a Futures Margin?
A margin is an essential and contingent part of Futures trading. A Future’s Margin is the amount of money that must be set aside as collateral in order to trade or maintain an open futures position. While this may resonate with the notion of down payments, it is important to note that a Futures margin differs from a downpayment as it does not grant one ownership of the underlying asset. Moreover, there are essentially two types of margins that must be paid when trading Futures; initial margin and maintenance margin.
The initial margin, as the name entails, is the initial amount of money that is handled by the broker and is susceptible to change on a weekly or daily basis based on volatility decreases or increases. This type of margin is also referred to as the “original margin,” which is the original margin applied at the time when the trade is first executed. In other words, the initial margin is a certain percentage of the overall initial price of the Futures contract.
It is no secret that Futures contract prices might change from the initial price due to the fact that the markets are volatile and the underlying assets’ prices may drop over time. This is where the maintenance margin comes into play. The maintenance margin is, therefore, the amount that should be maintained in the account at all times to cover potential losses. This is because having sufficient money in your account when a futures position suffers a loss will allow traders to return the margin to its original level. Moreover, it is worth noting that the maintenance margin is less than the initial margin.
Another type of margin is called intraday margin which is the amount of money traders must have in their accounts in order to execute intraday trades, meaning buying and selling Futures on the same trading day.
Place Order Margin
In addition to the aforementioned margins, on Plus500, traders would also need to have a place order margin. This type of margin is unique to Plus500’s Futures traders and it is essentially the amount of money needed to be available in one’s account to place a certain order. For instance, if you want to buy 3 Micro S&P 500 contracts and the place order margin per contract is $70. In that particular case, you would need to have $210 available in your account to place a buy order.
In some cases, a Futures position may end up losing, and the customer’s balance may drop below the maintenance margin, which would register a margin call. A margin call is the amount of money the trader must pay in order to reestablish the initial margin that would qualify for keeping the Futures contract open. Margin calls aim to protect the broker or the Futures provider from incurring more losses than the customer can handle. This is why the traders are expected to cover their losses. In other words, if the margin call is not answered by the trader, the broker or the Futures provider may choose to terminate the contract in order to protect the company from incurring more losses.
Futures Margin Requirements
Futures margin rates can differ from one Futures provider to another. On Plus500’s Futures platform, you may view the margin requirements here. In addition, margin requirements differ from one instrument and type of Futures contract to another. In this regard, margin requirements for micro and e-mini Futures contracts may vary.
How Are Futures Margins Calculated?
Most Futures exchanges use a program called SPAN in order to set margins. SPAN calculates futures margin rates by measuring a wide range of variables in order to determine the amount for the initial and maintenance margin. Moreover, a key factor to consider when discussing margin calculations, is that setting margins is largely influenced by the volatility and the stability or instability of the futures market in question. Therefore, market conditions may affect the margin settings of exchanges and these may differ from one exchange to the other.
Difference Between Futures Margin and Stock Margin
A Futures margin differs from a regular stock trading margin. One way to understand the difference better is by comparing a stock’s margin with purchasing a house. Like a down payment on a house that is a certain amount of money paid upfront, a stock trader also pays a down payment which is called the initial margin. Further, in stock trading, the margin is similar to taking out a loan against your assets. but in futures, it's like putting down a good-faith deposit, i.e. an indication of trust between the trader and the broker.
Margin is an integral part of Futures trading and knowing what it is, how it’s determined and its different types are, therefore, crucial to a better understanding of the overall Futures market.