Margins In Futures Market

Margins

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.

Settlements

All trades in the futures market are cash settled on a T+1 basis and all positions (buy/sell) which are not closed out will be marked-to-market. The closing price of the index futures will be the daily settlement price and the position will be carried to the next day at the settlement price.
The most common way of liquidating an open position is to execute an offsetting futures transaction by which the initial transaction is squared up. The initial buyer liquidates his long position by selling identical futures contract.
In index futures the other way of settlement is cash settled at the final settlement. At the end of the contract period the difference between the contract value and closing index value is paid.