04 January 2007

New Margin Rules For Option Positions

This was released in the middle of last month, and while trumpeted by a few option education firms, seems to have slipped by largely unnoticed by a lot of the retail trading community.


CHICAGO, December 13, 2006 - The Chicago Board Options Exchange (CBOE) announced today that the Securities and Exchange Commission (SEC) approved amendments to CBOE rules that allow for expanded portfolio margining for customer accounts.The effective date of the amendments is April 2, 2007.

Today's action expands the scope of products eligible for portfolio margining to include equities, equity options, narrow-based index options, certain security futures products (such as single stock futures), and unlisted derivatives. The SEC approved portfolio margining for broad-based index options in July 2005.U.S. futures markets and most European and Asian exchanges for many years have employed risk-based margining similar to CBOE's new rules.

The new portfolio margining rules will have the effect of aligning the amount of margin money required to be held in a customer's account to the risk of the portfolio as a whole, calculated through simulating market moves up and down, and accounting for offsets between and among all products held in the account that are highly correlated (for example, options on the S&P 500 Index, "SPX", can be offset against options on the S&P 500 Depositary Receipts, "SPY", or options on DIAMONDS (DIA) can be offset against SPX options). Current practice is to require margin based on set formulas for various strategies (i.e. some spread strategies require a certain minimum margin), regardless of what other offsetting positions were held in the account and regardless of potential market moves. For some positions the margin requirements may not change significantly, but for other positions, such as owning a protective put against a long stock position, the difference may be sizable. This is appropriate in that the margin calculation accounts for the fact that the risk of one position (long stock) is offset by the other (long put).

This will make a huge difference to the margin requirements of certain option positions as some of the examples in this document shows:


Long 500 IBM @ $91.25
Short 5 calls IBM APR 95 @ $ 2.78
Strategy margin is 50% of stock less the short option premium or $21,422.50
Portfolio margin requirement is $5,504.00


Long 500 IBM @ $91.25
Long 5 puts IBM APR 90 @ $ 2.50
Strategy margin is 50% of stock plus full payment for put or $24,062.50
Portfolio margin requirement is $1,878.00


(Long must expire on or after short)
Long 50 calls IBM APR 90 @ $5.45
Short 50 calls IBM JUL 100 @ $2.28
Strategy margin requires full payment for long option and
appropriate margin on short option position or $74,750.00
Portfolio margin requirement is $14,106.00

Not mentioned in the examples is a comparison of the collar under the current and new rules. Without pulling out my calculator, it's obvious that the collar margin will be competitive with the debit spread margin. Harking back to The Great Collar Vs Vertical Debate, this might just tip the balance in favour of collars.

It is a marginal advantage, but at least if the underlying tanks on you won't lose the cost of carry on the long call.

The new rules are long overdue and will certainly be welcomed.

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