Futures Trading 101

Posts Tagged ‘margin’

The margins that we are talking about here are not the white spaces around content in books and papers, but margins of a different sort.  In the context of finance and trading, a margin is collateral that is deposited to provide some sort of security for the parties involved.  Basically, you put up something you have as collateral, to show your good faith and strengthen your promise to deliver on the contract.

In futures trading, margins are important because of the risks involved in prediction.  Who knows if things will really turn out according to plan?  As such, parties need to deposit collateral, just in case they cannot make it all the way to the end.  In futures trading, there are a few major types of margins:

• Clearing Margin.  This is meant to safeguard the interests of customers by giving the providers (or sellers) incentive to uphold their obligations to performing well.
• Customer Margin.  This is required from both buyers and sellers, and the value for this is calculated based on market risks and the value of the contract.  Sometimes referred to as a performance bond margin.
• Initial margin.  This is what is needed to start a futures position.  The value can change as the market prices move, and at times of high volatility, calls can be made within the trading day.  If the item exchanged in the futures contract is traded on commodity exchanges, then the concerned authorities are the ones to set the rate for this margin.
• Maintenance Margin.  This is a set minimum amount that a customer must maintain in his margin account.

Futures typically have “true-ups” or periodic partial settlements within the contract period, which allow both parties to keep close track of developments.  The amount for these margins is usually set at around 5 to 15 percent of the value of the contract.