Margin Calls – Note Quote.

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Unlike FOREX margin, which is a single yet dynamic figure that constantly fluctuates based on the notional value of the contracts being traded, futures margin is relatively static. Although the exchange and brokerage firms have the right to increase, or decrease, margin requirements at any time, changes are typically infrequent.

The premise of margin is to mitigate risk exposure to the exchange and brokerage firms by ensuring that traders have enough funds on deposit to cover losses that might reasonably be seen within a trading session. Accordingly, futures exchanges set margin rates based on current market volatility and not necessarily the nominal value of the contract, which is the dominant method in FOREX. Nominal value is the total worth of the currency contract when leverage is eliminated. However, as the nominal value increases, the futures exchanges tend to increase margin simply because, at higher prices, currencies tend to see larger price moves and expose traders to additional risk.

When traders refer to their futures margin requirement, they are referring to the initial margin. In other words, “initial margin” and “margin” are often used synonymously. In detail, initial margin is the amount of capital the exchange requires a trader to have on deposit to hold a given currency futures contract beyond the close of trade on the session the order was executed. For example, if the initial margin for a standard-sized Euro futures contract is $5,400, a trader should have at least this much in a trading account to execute a trade that is intended to be held overnight. Day traders are not necessarily subject to the same requirements.

The minimum account balance that must be maintained at the close of trade to avoid a margin call is known as the maintenance margin. Futures exchanges typically set the maintenance margin at about 70% to 80% of the initial margin. Should an account balance dip below the maintenance margin requirement, as measured by the close of trade on any particular day, a margin call is generated and the trader is required to bring the account back above the initial margin. This can be done through position liquidation, adding funds to the trading account, or even mitigating margin using option hedges. Once an official margin call is triggered, it is no longer enough to bring the equity above the maintenance margin level; the account must meet the initial margin. A margin call is triggered only if the account is in violation at the close of a trading session. At any point intraday, it is nearly irrelevant. Therefore, it is quite possible for an account to experience a margin deficit in the middle of the trading day only to be off the hook by the close of trade, and vice versa. This differs from FOREX, where traders are commonly issued intraday margin calls. This is because their margin requirement is being consistently measured as opposed to solely at the end of the trading day, as is the protocol in futures.

Margin calls state account details such as open positions, required initial and maintenance margin, the margin deficiency, and current account value. In addition to a formal notice, brokerage firms display margin call details on the trader’s daily statements, including the number of days the margin call has been active. Futures brokers typically give traders two or three days to eliminate a margin call on their own accord, but each brokerage firm is different. Deep-discount brokers tend to be much less lenient when it comes to margin calls and forced account liquidation.

If a client goes one step beyond a simple margin call and is in danger of losing more than the funds on deposit, it is not uncommon for risk management clerks to force liquidate positions regardless of the brokerage firm and service type, and they have every right to do so.

If traders must have the initial margin on deposit to enter a trade, there are exceptions for those who enter a trade based on the premise of offsetting their risk and obligation by the end of that particular trading session. For those traders engaged in the practice of day trading, brokerage firms, and even individual brokers, will often negotiate a discounted margin rate offering more leverage than is granted to traders who are holding positions overnight. For the purpose of margin, day trading is any activity in which trades are entered and exited within a single trading session. In today’s world, the currency futures markets trade nearly 24 hours per day. Therefore, it is entirely possible for a trade to be entered in the evening, held overnight, and offset before the close of the day session to be treated as a “day trade.” Conversely, although this trade was held “overnight,” under the usual pretense of the phrase, both the entry and the exit occurred within a single trading session and, therefore, falls into the day-trading category in regard to margin.

Depending on a trader’s established relationship with his brokerage firm, or more importantly an individual broker, the margin charged on any intraday positions may be anywhere from 50% to 10% of the exchange’s stipulated overnight rate. Naturally, only those clients believed to be responsible enough to have access to excessively low margin requirements are awarded the privilege; irresponsible traders are viewed as a credit risk to the brokerage and might not be granted the same freedoms. This is similar to the threats posed by those with low credit scores to a credit card company. With that said, as a means of risk management implemented by brokerage firms, some platforms are now capable of automatically liquidating accounts in danger of losing more than what is currently deposited. In the case of auto-liquidation, brokers might extend even more lenient margin policies to day traders simply because the luxury of auto-liquidation mitigates risk to the firm. Similar to the way a trader analyzes the market in terms of risk and reward, brokerage firms assess clients on a risk/reward basis and proceed accordingly. Brokerage revenue is commission based; they want you to trade, but not if it isn’t worth the potential consequences.

Futures brokers who have auto-liquidate capabilities often ask clients to sign a disclosure statement acknowledging they are aware that positions might be offset without prior consent to the client if the account is deemed to be in danger of going negative, although they technically have the right to do so even without the agreement. A common practice among futures brokers is to strategically place a stop order at a price that would prevent the account from losing more than is on deposit. However, as futures traders become more and more self-directed, this courtesy is slowly becoming less popular simply because in some ways it poses additional risk and potential liability to the broker. For example, “unruly” clients can easily cancel a stop order placed on their behalf to prevent a debit balance, and brokers simply don’t have time to babysit accounts to ensure clients don’t do so. In addition, if a stop order is placed for a specific number of contracts and the trader reduces the size of the position without adjusting the stop order, he might attempt to hold the brokerage firm liable for any erroneously resulting trades.

Global Significance of Chinese Investments. My Deliberations in Mumbai (04/03/2018)

Legends:

What are fitted values in statistics?

The values for an output variable that have been predicted by a model fitted to a set of data. a statistical is generally an equation, the graph of which includes or approximates a majority of data points in a given data set. Fitted values are generated by extending the model of past known data points in order to predict unknown values. These are also called predicted values.

What are outliers in statistics?

These are observation points that are distant from other observations and may arise due to variability in the measurement  or it may indicate experimental errors. These may also arise due to heavy tailed distribution.

What is LBS (Locational Banking statistics)?

The locational banking statistics gather quarterly data on international financial claims and liabilities of bank offices in the reporting countries. Total positions are broken down by currency, by sector (bank and non-bank), by country of residence of the counterparty, and by nationality of reporting banks. Both domestically-owned and foreign-owned banking offices in the reporting countries record their positions on a gross (unconsolidated) basis, including those vis-à-vis own affiliates in other countries. This is consistent with the residency principle of national accounts, balance of payments and external debt statistics.

What is CEIC?

Census and Economic Information Centre

What are spillover effects?

These refer to the impact that seemingly unrelated events in one nation can have on the economies of other nations. since 2009, China has emerged a major source of spillover effects. This is because Chinese manufacturers have driven much of the global commodity demand growth since 2000. With China now being the second largest economy in the world, the number of countries that experience spillover effects from a Chinese slowdown is significant. China slowing down has a palpable impact on worldwide trade in metals, energy, grains and other commodities.

How does China deal with its Non-Performing Assets?

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China adopted a four-point strategy to address the problems. The first was to reduce risks by strengthening banks and spearheading reforms of the state-owned enterprises (SOEs) by reducing their level of debt. The Chinese ensured that the nationalized banks were strengthened by raising disclosure standards across the board.

The second important measure was enacting laws that allowed the creation of asset management companies, equity participation and most importantly, asset-based securitization. The “securitization” approach is being taken by the Chinese to handle even their current NPA issue and is reportedly being piloted by a handful of large banks with specific emphasis on domestic investors. According to the International Monetary Fund (IMF), this is a prudent and preferred strategy since it gets assets off the balance sheets quickly and allows banks to receive cash which could be used for lending.

The third key measure that the Chinese took was to ensure that the government had the financial loss of debt “discounted” and debt equity swaps were allowed in case a growth opportunity existed. The term “debt-equity swap” (or “debt-equity conversion”) means the conversion of a heavily indebted or financially distressed company’s debt into equity or the acquisition by a company’s creditors of shares in that company paid for by the value of their loans to the company. Or, to put it more simply, debt-equity swaps transfer bank loans from the liabilities section of company balance sheets to common stock or additional paid-in capital in the shareholders’ equity section.

Let us imagine a company, as on the left-hand side of the below figure, with assets of 500, bank loans of 300, miscellaneous debt of 200, common stock of 50 and a carry-forward loss of 50. By converting 100 of its debt into equity (transferring 50 to common stock and 50 to additional paid-in capital), thereby improving the balance sheet position and depleting additional paid-in capital (or using the net income from the following year), as on the right-hand side of the figure, the company escapes insolvency. The former creditors become shareholders, suddenly acquiring 50% of the voting shares and control of the company.

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The first benefit that results from this is the improvement in the company’s finances produced by the reduction in debt. The second benefit (from the change in control) is that the creditors become committed to reorganizing the company, and the scope for moral hazard by the management is limited. Another benefit is one peculiar to equity: a return (i.e., repayment) in the form of an increase in enterprise value in the future. In other words, the fact that the creditors stand to make a return on their original investment if the reorganization is successful and the value of the business rises means that, like the debtor company, they have more to gain from this than from simply writing off their loans. If the reorganization is not successful, the equity may, of course, prove worthless.

The fourth measure they took was producing incentives like tax breaks, exemption from administrative fees and transparent evaluations norms. These strategic measures ensured the Chinese were on top of the NPA issue in the early 2000s, when it was far larger than it is today. The noteworthy thing is that they were indeed successful in reducing NPAs. How is this relevant to India and how can we address the NPA issue more effectively?

For now, capital controls and the paying down of foreign currency loans imply that there are few channels through which a foreign-induced debt sell-off could trigger a collapse in asset prices. Despite concerns in 2016 over capital outflow, China’s foreign exchange reserves have stabilised.

But there is a long-term cost. China is now more vulnerable to capital outflow. Errors and omissions on its national accounts remain large, suggesting persistent unrecorded capital outflows. This loss of capital should act as a salutary reminder to those who believe that China can take the lead on globalisation or provide the investment or currency business to fuel things like a post-Brexit economy.

The Chinese government’s focus on debt management will mean tighter controls on speculative international investments. It will also provide a stern test of China’s centrally planned financial system for the foreseeable future.

Global Significance of Chinese investments

A Rejoinder to Public Sector Banks Lending, Demonetisation and RBI Norms: an adumbration

The country’s central bank said 405,000 counterfeit 500- and 1,000-rupee notes were found in the banking system in the year that ended in March, representing around $4 million. But researchers at the Indian Statistical Institute estimated this year that the total value of fake bills in circulation, including those that go undetected by banks, may be as high as $60 million. Now, this is a major discrepancy considering the fact that ISI is invested with data collection, and if one were to go extrapolating this discrepancy, the breach is already broken even without the government stepping in to play its complicit part. 

India is a cash-rich economy, in that most of the transactions are effected in hard cash. This predominance leads to huge stacks in store leading to culmination of corrupt-practices that multiply. One way to emaciate the flow is through narrowing the spigot, which is precisely what is expected out of this exercise, though a caveat of it leading a full circle to corruption cannot be belittled as you have wonderfully explained. But, this spigot narrowing could at least streamline the cash flows of abundance in terms of higher-denomination for the time being. But, how would this cause any lowering in corrupt practices? Probably, it might only for the time being with increased liquidity in banks seize up economy by making it difficult for large volumes of transactions, especially in sectors allied with infrastructure. 

How is the gold sector impacted? Negatively to begin with as no one is investing in gold bullion but rather placing orders to capitalise once the system smoothens. The RBI might go slow on open market operations (OMOs) till there is clarity on how much money will flow into bank deposits by December 30. Moreover, this adverse wealth impact will likely hurt higher-end discretionary demand temporarily. At the same time, lower rates should provide a buffer. A combination of two would result in RBI recouping forex reserves if the adverse wealth effect cuts down gold import demand, a teleological consequence.

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