What is an Options Margin?
An Options margin is an amount of cash (deposit) that an investor must have in place in their account before writing, selling or granting options. An options margin is required as a type of collateral to ensure the writer can fulfil their obligations under the contract they have sold in the event of an adverse move against the position.
When do you Need an Options Margin?
A trading options margin is only required on short options as the buyer’s loss is limited to the premium they pay upfront and they have no obligations under the contract.
As an option writer (seller) in call options, you are obligated to sell the underlying asset to the holder if the options are exercised. If you do not hold the asset in your account, you will have to buy the asset from the marketplace to deliver it to the buyer of the call option. To ensure that you have the funds in place to purchase the stock if an assignment happens, your broker will require cash on deposit through the life of the position.
When an investor writes (sells) put options, they are obligated under the agreed put contract to buy the underlying asset from the put holder if the options are exercised. Option margin is in place for this to make sure that you have sufficient cash to buy the asset if you are assigned.
A “Margin Call” is when your broker requires further funds to be deposited to meet the required minimum margin amount for your position. This normally happens if the price of the underlying asset moves against you. Other factors like an adverse change in volatility or the clearing house changing the margin parameters may also cause margin calls.
The Different Types of Options Margin
Initial margin, which is set by an independent body such as a clearing house, is the minimum amount required to be deposited in your account to be able to place the relevant trade. This is a good faith deposit to ensure you can meet your contractual obligation for the relevant trade. Initial margin requirements are calculated daily and are subject to change depending on several factors like underlying asset price, volatility and time to expiry. Your initial deposit may not be enough for the lifetime of your relevant trade.
Variation margin is normally calculated on a daily basis and forms part of your overall margin requirement. For options, it is usually calculated daily using the official settlement price from the relevant clearing house. Variation margin is used to bring the capital in an account up to the margin level required to sustain a position. It is usually called the day after the trade date but can be called intra-day during the trading day in volatile markets.