Option strategies good deals and margin calls
On instruments determined to be especially risky, however, the regulators, the exchange, or the broker may set the maintenance requirement higher than normal or equal to the initial requirement to reduce their exposure to the risk accepted by the trader. For speculative futures and derivatives clearing accounts, futures commission merchants may charge a premium or margin multiplier to exchange requirements. The broker may at any time revise the value of the collateral securities margin , based, for example, on market factors.
If this results in the market value of the collateral securities for a margin account falling below the revised margin, the broker or exchange immediately issues a "margin call", requiring the investor to bring the margin account back into line. To do so, the investor must either pay funds the call into the margin account, provide additional collateral or dispose some of the securities. If the investor fails to bring the account back into line, the broker can sell the investor's collateral securities to bring the account back into line.
If a margin call occurs unexpectedly, it can cause a domino effect of selling which will lead to other margin calls and so forth, effectively crashing an asset class or group of asset classes. This situation most frequently happens as a result of an adverse change in the market value of the leveraged asset or contract.
It could also happen when the margin requirement is raised, either due to increased volatility or due to legislation. In extreme cases, certain securities may cease to qualify for margin trading; in such a case, the brokerage will require the trader to either fully fund their position, or to liquidate it. The minimum margin requirement , sometimes called the maintenance margin requirement , is the ratio set for:. So the maintenance margin requirement uses the variables above to form a ratio that investors have to abide by in order to keep the account active.
So at what price would the investor be getting a margin call? For stock price P the stock equity will be in this example 1, P.
Let's use the same example to demonstrate this:. Margin requirements are reduced for positions that offset each other. For instance spread traders who have offsetting futures contracts do not have to deposit collateral both for their short position and their long position.
The exchange calculates the loss in a worst-case scenario of the total position. Similarly an investor who creates a collar has reduced risk since any loss on the call is offset by a gain in the stock, and a large loss in the stock is offset by a gain on the put; in general, covered calls have less strict requirements than naked call writing.
The margin-equity ratio is a term used by speculators , representing the amount of their trading capital that is being held as margin at any particular time.
The probability of losing their entire capital at some point would be high. By contrast, if the margin-equity ratio is so low as to make the trader's capital equal to the value of the futures contract itself, then they would not profit from the inherent leverage implicit in futures trading.
Return on margin ROM is often used to judge performance because it represents the net gain or net loss compared to the exchange's perceived risk as reflected in required margin. The annualized ROM is equal to.
Sometimes, return on margin will also take into account peripheral charges such as brokerage fees and interest paid on the sum borrowed. The margin interest rate is usually based on the broker's call. From Wikipedia, the free encyclopedia. This article is about the term as it is used in the jargon of bourses. For the film, see Margin Call film. Retrieved 10 Feb The American Economic Review. Energy derivative Freight derivative Inflation derivative Property derivative Weather derivative.
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Retrieved from " https: Financial markets Margin policy. For this strategy, time decay is your friend. You want the price of the option you sold to approach zero. That means if you choose to close your position prior to expiration, it will be less expensive to buy it back. After the strategy is established, you want implied volatility to decrease.
That will decrease the price of the option you sold, so if you choose to close your position prior to expiration it will be less expensive to do so. Options involve risk and are not suitable for all investors. For more information, please review the Characteristics and Risks of Standardized Options brochure before you begin trading options. Options investors may lose the entire amount of their investment in a relatively short period of time.
Multiple leg options strategies involve additional risks , and may result in complex tax treatments. Please consult a tax professional prior to implementing these strategies. Implied volatility represents the consensus of the marketplace as to the future level of stock price volatility or the probability of reaching a specific price point.
The Greeks represent the consensus of the marketplace as to how the option will react to changes in certain variables associated with the pricing of an option contract. There is no guarantee that the forecasts of implied volatility or the Greeks will be correct. Ally Invest provides self-directed investors with discount brokerage services, and does not make recommendations or offer investment, financial, legal or tax advice. System response and access times may vary due to market conditions, system performance, and other factors.
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The Options Playbook Featuring 40 options strategies for bulls, bears, rookies, all-stars and everyone in between. The Strategy Selling the call obligates you to sell stock at strike price A if the option is assigned.
Options Guy's Tips You may wish to consider ensuring that strike A is around one standard deviation out-of-the-money at initiation. Break-even at Expiration Strike A plus the premium received for the call. Maximum Potential Profit Potential profit is limited to the premium received for selling the call.
If the stock keeps rising above strike A, you keep losing money.