Portfolio Margin

What is portfolio margin?

Portfolio margin is a method of calculating margin requirements in a trading account by evaluating the overall risk of an entire portfolio, rather than determining margin requirements for individual instruments as in the traditional approach. This method allows users to trade more efficiently and optimize their capital allocation, as it typically results in significantly lower margin requirements compared to the traditional model.

In which trading scenarios is portfolio margin applicable?

At present, Longbridge supports covered call and covered put strategies.

• A covered call is an options trading strategy in which an investor holds a long position in the underlying security while simultaneously selling a call option on that security. This approach offsets or reduces the margin requirement for the call option.
• A covered put is an options trading strategy in which an investor holds a short position in the underlying security while simultaneously selling a put option on it. Similarly, this strategy offsets or reduces the margin requirement for the put option.

For example:

Suppose a user holds a long position of 200 shares of XYZ.US in their account. If the user sells call options (short call) on XYZ with any expiry date and strike price, and the quantity is less than or equal to 2 contracts (1 contract equals 100 shares of the underlying stock), no margin is required to execute the order. Once the options are sold, a covered call position will be created in the account, and the margin will be calculated based on portfolio margin requirements. However, if the number of call options sold exceeds 2 contracts, the excess will be subject to standard margin requirements.

Similarly, for a covered put position, suppose a user holds a short position of -200 shares of XYZ.US in their account. If the user sells put options (short put) on XYZ with any expiry date and strike price, and the quantity is less than or equal to 2 contracts, no margin is required to execute the order. After the options are sold, a covered put position will be established, and the margin will be calculated according to portfolio margin requirements. However, if the number of put options sold exceeds 2 contracts, the excess will be subject to standard margin requirements.

The formula for determining the number of options contracts that can form a portfolio is as follows: Number of contracts = Round down of (Available holdings of the underlying stock ÷ Number of shares of the underlying stock per option contract).

For example, if the available holdings of the underlying stock are 250 shares, and one option contract corresponds to 100 shares of stock, the number of options contracts that can form a portfolio will be: Round down of (250 ÷ 100) = 2 contracts.

The table below illustrates the difference between portfolio margin and traditional margin in the same trading scenario, using a covered call as an example.

In this case, we consider options for the stock XYZ.US, where each contract represents 100 shares of the underlying stock. For the purposes of this illustration, let's assume that it is a non-zero days to expiration (DTE) option with a set order price of $5.00.

What impact does increasing or reducing positions have on positions created through portfolio margin?

Increasing positions in the underlying stock will not impact existing covered call / covered put positions. In fact, it may increase the quantity of short call or put options that can be sold since it increases the holdings quantity of the underlying stock.

However, reducing positions in the underlying stock may result in insufficient quantity of the underlying stock, potentially leading to naked short options. In such cases, the account's margin requirements will be recalculated.

Regarding a zero days to expiration (0DTE) options portfolio, is any additional margin required, potentially leading to a margin call?

No, if the options have already been established as covered calls or covered puts with existing holdings in the account, the required quantity of the underlying stock will be "frozen" on the expiration date to ensure the options can be exercised. This process prevents any increase in margin requirements and eliminates the risk of a margin call.

Will holding an options portfolio affect my margin calls?

No, portfolio margin does not impact the calculation of margin calls. In fact, using portfolio margin can reduce the risk of a margin call, as it lowers the margin requirements by considering the overall risk of the portfolio.

If corporate actions affecting the underlying stock impact the options, will they also affect my portfolio margin?

Corporate actions, such as stock splits or consolidations, will adjust the options accordingly but will not impact your portfolio margin.

For instance, if you initially held 500 shares of the underlying stock and had 5 short call contracts, and the stock underwent a 5-for-1 split, reducing your holdings to 100 shares, the contract size would adjust from 100 to 20 (meaning 1 option contract now represents 20 shares). Despite this adjustment, the covered call position of 5 contracts would still be valid, and your portfolio margin requirements would remain unchanged.

How does the portfolio margin prioritize positions when holding multiple option contracts with insufficient shares of the underlying stock?

When holding multiple options contracts but there are insufficient shares of the underlying stock, the system automatically prioritizes the options with higher margin requirements to form a portfolio, greatly reducing margin requirement and enhancing buying power.

For example, suppose you hold 100 shares of the underlying stock and have one out-of-the-money short call option (Option A) with a margin requirement of USD 500. As Option A is already part of your portfolio, the margin requirement for the account is effectively zero. If you then purchase an in-the-money short call option (Option B) with a margin requirement of USD 600, once Option B is executed, the system will prioritize Option B due to its higher margin requirement. As a result, Option A will become a naked short option, and the margin requirement for Option A will be reduced to USD 500, with Option B now included in the portfolio and exempted from additional margin requirements.