Types of Margins in commodity futures trading

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Types of Margins in commodity futures trading
To trade in futures contract, you need to deposit a certain percentage of the total contract value with the exchange as a security deposit. This sum is known as 'margin'. The percentage can vary for different commodities and is decided by the exchange.

Types of margins:
There are basically four types of margins - initial margin, mark-to-market margin, special margin and delivery period margin.

Initial margin
When a commodity trader opens a trading account with a broker, he or she is required to put down a capital sum to initiate a trade. This acts as a collateral which allows the commodity trader to enter into futures market. It is refundable at delivery, exercise, expiry or squaring off, depending on the profit or gain on the trade.

The initial margin must be maintained throughout the time that the position is open. If the value of underlying commodity falls below the margin, you need to top up your account with additional margin to hold the particular commodity.

For commodity futures margins can be in the range 2-15% of contract value.

Mark-to-market margin
Mark-to-market, also called as M2M is the margin that is calculated on each trading day by taking the difference between the closing price of a contract on that particular day and the price at which the trade was initiated. In other words, its the practice of crediting or debiting a trader's account based on the daily closing prices of the futures contracts he is holding.

Mark-to-market margin is calculated on daily basis to find out the profit or loss on the open futures position. If there is a profit, the amount is transferred from the clearing house to your trading account by the broker, and in case of loss, the amount is transferred by the broker from your trading account to the clearing house.

For example, if one buys futures of Rs 5000 and its price fall to Rs 4500. Then s/he has to pay M2M margin of Rs 500 to take the position in the future.

Special Margin
With a view to control price volatility and the breach of daily circuit (the maximum permissible daily movement against the previous closing price on either side), Exchange has introduced the system of Special Margin. The purpose of this margin is to control excessive speculation and to protect the interest of common traders and investors. This will be applicable for all the traders who have an open position and they can't trade further unless this special margin amount is paid.

Delivery Margin
When the contract approaches delivery period i.e. last five days before the expiry date of the contract, the exchange requires the buyers and sellers to put additional margins. Usually, it is 25 per cent of the total contract value and is subject to change by the exchange. The delivery margin percentage is different for each commodities.

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Read more about: investment, commodities, futures, trading
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