What is the margin call on a trading account and how does it work? Here is a guide to understand what happens and how to behave to avoid the margin call.
What is a margin call, how does it work and what does it do for my trading account?
Margin call is one of the most important concepts in trading, along with leverage. Knowing the meaning and functioning of the margin call is of fundamental importance if you want to become a successful trader but above all to avoid unpleasant losses.
The margin call is a feature active on many trading platforms which could result in the automatic closure of one or more positions in the account in the event that these lose so much that the deposited funds are insufficient to cover the exposure relating to the position.
In other words, a margin call is a request made to a trader by your broker to deposit more money or securities in order to meet the minimum maintenance margin requirement for your I count. This way, the broker is protected from any losses caused by insufficient capital in the trader’s account.
In this article, the experts of XTB have summarized everything you need to know about margin calls, how to calculate them and how to avoid them. XTB is a world-class regulated investment broker, with a global presence in over 13 countries. The XTB platform offers access to more than 5,800 financial instruments - both real shares and ETFs, as well as CFD-type derivative instruments, as well as access to free and comprehensive training.
Margin call: meaning and importance in trading
In the context of trading, when opening a position on the market it is necessary to pay a certain amount of expense, called margin. We immediately clarify that the margin is not a cost but a small part of the account that is "blocked" by the broker to guarantee the open operations. Once the trade is closed, in profit or loss, the margin is returned.
Doing margin trading allows you to make profits with a minimum investment through the leverage effect.
Through the use of leverage, the trader can control a high volume of capital by using only a small part, the margin.
For example, with a leverage of 1:100, it is possible to open a position with a lot value of $100,000 by having only $1,000 (margin) in the account. Thus the gains and losses of the trade are magnified as they are calculated on $100,000. The logical consequence is that, in the event of a win, the earnings are high but, in the event of a negative outcome of the operation, there is the risk of losing all the capital.
The concept of available margin and the importance of the margin call fit into this context.
The available (or usable) margin represents the portion of capital that can be used to open new positions on the market after subtracting the margin required by the broker to guarantee the open positions.
When the available margin falls below a certain threshold the margin call is triggered, i.e. a request to supplement the margin. If the necessary deposit is not made to cover losses and restore the level of available margin, the broker will automatically close all open positions in order to prevent the account from going negative.
The margin call is therefore an automatic safety measure set up by the broker and great care must be taken to ensure that this condition does not occur. In this sense, the use of the stop loss is very useful, which must be positioned following appropriate money management rules in order to avoid losing more than we can afford.
To sum up, thanks to the margin call, traders cannot lose more than they placed due to this loss limiting feature. By using margin correctly, traders can avoid margin calls by responsibly choosing their position size based on the size of their trading account.
Margin calls: how does it work? Practical example
Suppose you open a trading account by depositing $10,000.
Once logged in to the trading platform provided by the broker, going to the terminal section, the following values are displayed..
| Initial Balance | Equity Value | Used Margin | Usable Margin |
| $10,000.00 | $10,000.00 | $0.00 | $10,000.00 |
The balance is the initial deposit +/- the profits and losses recorded.
The value is given by the balance +/- the profits and losses for the operations in progress.
The margin used is the amount required by the broker to open the position. It is calculated using the following formula:
- Margin % = 100 / leverage ratio
- Margin Required = Units Traded x Margin %
The usable margin is given by the value minus the margin.
When there are no open positions, the balance, the usable margin and the countervalue coincide while the used margin is equal to zero.
To avoid receiving the margin call, the equivalent value must always be higher (or at most equal) to the margin used.
If the countervalue falls below the margin used, the margin call is triggered and new positions can no longer be opened until the margin is restored. If the losses continue to increase the broker automatically closes open trades to prevent the account from going negative.
On the terminal these values are calculated automatically.
Let’s see an example.
Suppose you have opened a position on the euro dollar exchange buying a mini lot of $10,000. The leverage offered by the broker is 1:100 (leverage ratio is therefore 100). The margin of the operation will be calculated as follows:
- Margin in % = 100 / 100 = 1% = 0.01
- Margin Required = $10,000 x 0.01 = $100
The usable margin will then be: - Usable Margin = $10,000 - $100 = $9,900
| Initial Balance | Equity Value | Used Margin | Usable Margin |
| $10,000.00 | $10,000.00 | $100.00 | $9,900.00 |
From the table above we observe that the value is greater than the margin used. This means that there is still enough usable margin to open a new position.
If by increasing the exposure the value becomes lower than the margin used, the margin call is triggered.
Suppose we have increased exposure by purchasing an additional 79 mini-lots of euro dollars for a total of 80 mini-lots. The margin used will be $8,000 (80 mini-lots at $100 margin each).
The account situation will be as follows.
| Initial Balance | Counterfly | Used Margin | Usable Margin |
| $10,000.00 | $10,000.00 | $8,000.00 | $2,000.00 |
The counter value is still higher than the used margin, however the usable margin is very low. The open position is therefore risky because if it were to lose, the value could fall below the margin used by activating the margin call.
If the losses continue to increase the broker will close all purchased mini lots at the current market price.
Suppose you bought all 80 mini lots at the same price. The margin call would be triggered as soon as the trade goes in loss of only 25 pips.
Each pip in a mini lot is worth $1 and the open position consists of 80 mini lots.
So: $1/pip X 80 mini-lots = $80/pip
This means that if the euro-dollar exchange rate rose by 1 pip, the value would increase by $80. If instead it falls by 1 pip, the value would decrease by $80.
$2,000 usable margin divided by $80/pip = 25 pips
Suppose you bought the 80 mini-lots of Euro Dollars at $1.2000.
This is how the account situation would look if the euro-dollar fell to 1.1975 dollars, i.e. -25 pips.
| Initial Balance | Counterfly | Used Margin | Usable Margin |
| $10,000.00 | $8,000.00 | $8,000.00 | $0.00 |
The countervalue and the margin used are the same and a small negative fluctuation in the price triggers the margin call. At this point it is no longer possible to open new trades and if the losses continue to increase the broker will close all open positions.
The account situation will be as follows.
| Initial Balance | Counterfly | Used Margin | Usable Margin |
| $8,000.00 | $8,000.00 | $0.00 | $0.00 |
Closing out of the trades results in the initial balance being reduced to $8,000 with a loss of $2,000.
In fact, it is common for the Euro Dollar to move 25 pips in a couple of seconds during a major news release following the release of economic data and it certainly fluctuates a lot on a trading day.
Considering the spread factor, for example 3 pips on the euro dollar, a negative swing of only 22 pips would be enough to trigger the margin call with the risk of losing $2,000 in a few seconds.
In summary, you can calculate the margin call on any position with this simple formula:
Margin call = initial purchase price * [(1 – initial margin)/ (1 – maintenance margin)]
The above example is obviously an extreme case but it demonstrates that never expose yourself too much to the market if you want to avoid incurring the margin call.
In this regard, there are appropriate money management rules which, if observed with diligence, allow only the risk that the capital can bear to be taken on, avoiding the possibility of a margin call.
How to manage a margin call
Put more money into your account - This is the simplest and most direct way to cover a margin call. Transferring money from another account or selling investments from your portfolio are two options for doing this.
Sell Stocks: You may offer some of the stocks in your portfolio for sale if you don’t have the funds to make a deposit. This way, you’ll use less overall margin and be better able to meet your maintenance margin needs.
Close positions: Closing part of your positions is another choice. This way, you’ll use less overall margin and be better able to meet your maintenance margin needs.
You should be aware that your broker may liquidate some of your positions to bring your account back to the appropriate level if you are unable to meet a margin call.
How to avoid a margin call
Recognize the margin requirements set by your broker: Make sure you understand the minimum maintenance margin requirement set by your broker before creating a margin account. Making sure you maintain an adequate level of capital in your account will help you avoid a margin call.
Monitor your account - Check your account balance and position value frequently to ensure you meet the maintenance margin requirement.
Use stop-loss orders to minimize potential losses and avoid a margin call. Stop-loss orders should be placed on all your positions for optimal risk management.
Diversify your assets: By spreading the risk of your portfolio across different assets and business sectors, you can reduce your risk exposure. This can reduce the possibility of losses and stop a margin call.
Prevent excessive leverage: Opening too many positions and/or positions with excessive size may make you more susceptible to a margin call.
Warning: You can effectively prevent a margin call and protect your capital by keeping these tips in mind. The markets can be unpredictable, so it is vital to keep in mind that even the most well-prepared investors could get a margin call.
Please also note that information or research based on historical data does not guarantee future performance or results. Any opinions, research, analyses, prices or other information provided under the heading of general market commentary do not constitute investment advice.
Original article published on Money.it Italy 2023-03-10 10:46:02. Original title: Come funziona la Margin Call (chiamata a margine) su un conto trading
