*SCALPSWINGSTRADDLE*

[ZoZoStockWatch]

Margin Misunderstandings

http://www.robertsinn.com/2011/11/05/margin-misunderstandings/

Posted by Robert Sinn on November 5th, 2011
Last night, the CME raised the maintenance margin to equal the initial margin on all products. Zero Hedge went ballistic stating:

“by close of business Monday, millions of options and futures holders will be forced to deposit billions in additional capital to the CME just so they are not found to be margin deficient, and thus receive a margin call. Naturally, since it is very unlikely that this incremental amount of liquidity can be easily procured in one business day, we anticipate the issuance of hundreds of thousands of margin calls Monday, followed by forced liquidations of margin accounts across America… and the world. Just like when Lehman blew up, it took 5 days for Money Markets to break. Is this unprecedented elimination in the distinction between initial and maintenance margin the post-MF equivalent of the first domino to fall this time around?”

Surely this increase in margin requirements will have an impact on certain markets, however, it will be nothing close to “hundreds of thousands of margin calls” – This is just alarmist nonsense, let’s analyze a futures contract with which I have a particular expertise in and is also quite dear to the Zero Hedge conspiracy crowd – Silver ($SI_F).

The 5,000 ounce COMEX silver futures contract has a notional value of roughly $170,000 ($34/ounce * 5,000 ounces), according to the CME website the initial margin is $24,975 per contract and the maintenance margin is $18,500 per contract. Let’s understand what these two terms mean:

Initial margin “is the equity required to initiate a futures position. This is a type of performance bond. The maximum exposure is not limited to the amount of the initial margin, however the initial margin requirement is calculated based on the maximum estimated change in contract value within a trading day.” Wikipedia

Maintenance margin “A set minimum margin per outstanding futures contract that a customer must maintain in his margin account.” Wikipedia

How many traders out there are swinging $170,000 of silver exposure with less than $25,000 of equity in their accounts? This is already a leverage ratio of nearly 7 to 1, are there really hundreds of thousands of traders out there leveraged up to the razors edge? Use your brain, there may be a couple hundred margin calls followed by liquidations on Monday but these will mostly be smaller accounts in which inexperienced traders have blown themselves up. Moreover, it is not clear that these liquidations will have a directional impact upon markets – Remember, futures markets are zero-sum games in which there are both longs and shorts.

In summary, there is sure to be some market impact on Sunday night/Monday, however, it will be nothing like the uninformed alarmist crowd of lemmings would have you believe.

UPDATE: Kid Dynamite has an interesting perspective on the CME announcement, he believes that by using “initial/maintenance ratio” rather than “maintenance/initial” the CME is actually lowering the initial margin requirement to equal the maintenance margin. I think KD may be on to something with this idea, as usual great thinking by KD!

Kid Dynamite’s World – The CME Margin Notice That Has Everyone in a Tizzy

http://kiddynamitesworld.com/the-cme-margin-notice-that-has-everyone-in-a-tizzy