Portfolio Margin

Portfolio margin refers to the modern composite-margin requirements that must be maintained in a derivatives account containing swaps (including credit default swaps), options and futures contracts. The objective of portfolio margining is to offset the risks to the lender through consolidating, or netting, positions to account for a portfolio’s overall risk. Portfolio margin accounting requires a margin position that is equal to the remaining liability that exists after all offsetting positions have been netted against each other.

For example, if a position in the portfolio is netting a positive return, it could offset the liability of a losing position in the same portfolio. This would reduce the overall margin requirement that is necessary for holding a losing derivatives position.

Portfolio margin requirements have only been recently instituted in the options market, although futures traders have enjoyed this system since 1988. The Chicago Board of Options Exchange (CBOE) imposes rules on margin accounts. In 2007, it introduced expanded margining requirements to more closely align portfolio margin amounts with the riskiness of a customer’s entire portfolio. Portfolio risk is to be measured by simulating the impact of market volatility. This revised system of derivative margin accounting has freed up millions of dollars in capital for options investors, allowing them more leverage, which previously was required for margin deposits under the old strategy-based margin requirements that were instituted in the 1970s.

Margin accounts are also subject to regulatory requirements laid out by the Federal Reserve Bank’s (Fed) Regulation T, a package of rules that govern customer accounts. Additionally, rules imposed by the major U.S. stock exchanges including New York Stock Exchange’s (NYSE) Rule 431 which applies to its member firms, and Nasdaq’s Rule 2860, along with the brokerage industry’s self-regulatory agency, Financial Industry Regulatory Authority (FINRA) rules govern how brokers manage margin accounts.

Among FINRA's requirements broker-dealers who offer portfolio margin accounts must meet are setting out and observing “specific criteria and standards to be used in evaluating the suitability of a customer for writing uncovered short option transactions” and establishing and monitoring “a minimum equity requirement.” Broker-dealers must also monitor, report and increase margin requirements on accounts with high concentrations of individual securities. Additionally, broker-dealers must provide customers with and receive their acknowledgment of, FINRA-approved written statements describing the risks involved in the accounts. Broker-dealers are also required by Securities and Exchange Commission (SEC) Exchange Act rules to segregate customer account assets from the institution’s.