Do you know the requirements of margin trading? If you want to operate and run a margin trading account, you need to be clear about the requirements of margin trading. What are the factors that determine your margin trading eligibility? Here we try to answer some of your key questions on margins, especially about margin trading eligibility and how to know your trading limits.
ELIGIBILITY FOR MARGIN TRADING
By now you are quite familiar with the reality that margin trading offers you a facility to buy stocks that you can’t afford to pay cash for today. Under the margin trading mechanism, you are allowed to buy stocks by paying a small part of the price or margin amount instead of the actual full value. This margin can be paid either in cash or by offering shares as security collateral via a pledge mechanism. You can also understand margin trading as an attempt to take leveraged positions in the market either with cash or by indirectly monetizing the value of shares held in Demat.
Normally, the broker funds your margin trading transactions, via an NBFC arm. The margin can be settled later when you subsequently square off your position in the market. Remember, you need to cover the normal transaction cost as well as the notional opportunity cost of funds, to get a clear picture of your breakeven. SEBI has recently relaxed margin criteria by allowing investors to create positions under margin trading even by furnishing shares as security, instead of depositing cash.
Let us now turn to margin trading eligibility
Some of the key requirements of margin trading in the form of eligibility pre-conditions can be summarized as under.
The first eligibility condition for margin trading is that you must have a margin account with the broker to avail of the margin trading facility. You don’t need a separate account, but you can just activate the MTF in your regular trading account.
Every margin account has to be funded. The broker will define the minimum maintenance margin level and that has to be maintained at all times. If the margin level goes below the maintenance margin, the broker can deny you any margin positions.
Normally, margin trading is permitted only in a set of stocks with liquidity and volumes. SEBI has defined a master outer list for stocks eligible for MTF. However, as part of risk management, most brokers prune this list further and stick to very liquid stocks only.
If you do not maintain the minimum balance, then your trade can get potentially squared-off by the broker. The squaring-off position is compulsory at the end of each trade session and inadequate margins will also force closure of positions.
MINIMUM MARGIN REQUIREMENTS
Margin trading is a facility for investors to leverage their holdings in securities that are not from the segment of derivates. Currently, you can leverage F&O stocks using futures and cerate mirror margin trading positions in the futures market. Hence, this MTF is more relevant for non-F&O stocks. Let us look at minimum margin requirements.
Remember that only authorized brokers, with corporate structures, can offer margin trading accounts. SEBI has defined an outer periphery of stocks to be eligible for margin trading, although brokers prune this list further based on risk assessment.
Investors wishing to utilize the MTF must create an MTF account with their brokers by accepting the terms and conditions signifying that they are conscious of the risks of the system. Then the minimum margin requirements are also defined based on broker discretion.
At all times, the maintenance margin must be maintained and the broker will normally make a margin call to replenish the margins to a higher level to enable positions in MTF.
WHAT IS THE INITIAL MARGIN
When you buy or sell a futures contract it involves risk because the price movement can go against you. Markets are by default volatile and margins are collected to cover volatility risk. The most important is the initial margin which is the combination of SPAN margin and Exposure margin. At the time of taking the position, you are required to pay the Initial Margin on the position (SPAN + Exposure margin). That is mandatory.
The SPAN margin is based on a statistical concept called VAR (Value at Risk) and protects the broker against the maximum possible loss in a single day in a worst-case scenario. It implies that the initial margin should be large enough to cover the loss of your position in 99% of the cases. The greater the volatility of the stock, the higher the risk, and therefore higher will be the initial margins to be paid. The exposure margin is fixed at 5-6% of the value of the contract and is almost standard across stocks. Formerly, collecting exposure margin was optional and only SPAN was mandatory. Now, the entire initial margin consisting of SPAN and exposure margins have to be collected by the broker before taking the position.
Open a free Demat A/C
By continuing, I accept the and agree to receive updates on Whatsapp
Check out our attractive brokerage plans
Frequently Asked Questions Expand All
What is Exposure Limit?
Exposure limit is the limit of leverage that the broker is willing to give you on your MTF account. Normally, the leverage ranges from 4X to 5X. That means, with a margin amount of Rs.5 lakhs, you can take positions of Rs.20 lakhs to Rs.25 lakhs in the equity market using MTF.
How do you get approved for margin trading?
You must have a margin trading account activated with the broker to avail the margin trading facility (MTF). The margin varies across brokers. You are normally required to pay a certain base minimum margin at the time of opening the MTF account. At all times, you are required to maintain a minimum balance, which is also called maintenance margin.
