The margining system is based on the JR Verma Committee recommendations. The actual margining happens on a daily basis while online position monitoring is done on an intra-day basis.
Daily margining is of two types:
1. Initial margins
2. Mark-to-market profit/loss
The computation of initial margin on the futures market is done using the concept of Value-at-Risk (VaR). The initial margin amount is large enough to cover a one-day loss that can be encountered on 99% of the days. VaR methodology seeks to measure the amount of value that a portfolio may stand to lose within a certain horizon time period (one day for the clearing corporation) due to potential changes in the underlying asset market price. Initial margin amount computed using VaR is collected up-front.
The daily settlement process called "mark-to-market" provides for collection of losses that have already occurred (historic losses) whereas initial margin seeks to safeguard against potential losses on outstanding positions. The mark-to-market settlement is done in cash.
Let us take a hypothetical trading activity of a client of a NSE futures division to demonstrate the margins payments that would occur.
- A client purchases 200 units of FUTIDX NIFTY 29JUN2001 at Rs 1500.
- The initial margin payable as calculated by VaR is 15%.
Total long position = Rs 3,00,000 (200*1500)
Initial margin (15%) = Rs 45,000
Assuming that the contract will close on Day + 3 the mark-to-market position will look as follows:
Position on Day 1
Close Price | Loss | Margin released | Net cash outflow |
1400*200 =2,80,000 | 20,000 (3,00,000-2,80,000) | 3,000 (45,000-42,000) | 17,000 (20,000-3000) |
Payment to be made | (17,000) |
New position on Day 2
Value of new position = 1,400*200= 2,80,000
Margin = 42,000
Close Price | Gain | Addn Margin | Net cash inflow |
1510*200 =3,02,000 | 22,000 (3,02,000-2,80,000) | 3,300 (45,300-42,000) | 18,700 (22,000-3300) |
Payment to be recd | | | 18,700 |
Position on Day 3
Value of new position = 1510*200 = Rs 3,02,000
Margin = Rs 3,300
Close Price | Gain | Net cash inflow |
1600*200 =3,20,000 | 18,000 (3,20,000-3,02,000) | 18,000 + 45,300* = 63,300 |
Payment to be recd | 63,300 |
Margin account*
Initial margin = Rs 45,000
Margin released (Day 1) = (-) Rs 3,000
Position on Day 2 Rs 42,000
Addn margin = (+) Rs 3,300
Total margin in a/c Rs 45,300*
Net gain/loss
Day 1 (loss) = (Rs 17,000)
Day 2 Gain = Rs 18,700
Day 3 Gain = Rs 18,000
Total Gain = Rs 19,700
The client has made a profit of Rs 19,700 at the end of Day 3 and the total cash inflow at the close of trade is Rs 63,300.
