You are an experienced Futures and Options (F&O) trader looking to expand your potential returns. But there is one problem – your available capital seems limited. That is where the Margin Trading Facility (MTF) can be a game-changer, allowing you to borrow funds from your broker to increase the size of your trades. With MTF, you use borrowed money to make more significant investments, potentially boosting your profits (and risks). Let’s discuss MTF in derivatives in detail.
What is a Margin Trading Facility?
Margin trading in Futures and Options (F&O) lets you trade larger positions than your actual capital using leverage. It requires you to deposit a margin—typically a percentage of the trade value—with your broker. This margin acts as collateral and enables you to take positions without paying the full contract value.
Suppose you have ₹60,000 in your account and wish to purchase NIFTY futures worth ₹2,40,000. Using a margin trading facility, your broker funds the remaining ₹1,80,000. You pay an initial margin of ₹60,000 and pledge the purchased futures as collateral. If the market performs in your favour, you earn substantial profits on the leveraged position. Conversely, if the market moves against you, you may receive a margin call and need to add funds to maintain your position.
Compliance Guidelines for Margin Trading
The SEBI has set various rules and regulations related to stock and derivatives trading. Here are some.
- Only corporate members with a net worth of at least ₹3 crores, per the SEBI (Stock Brokers) Regulations, 1992, can offer their clients margin trading facilities (MTF). Members must obtain prior approval from the exchange to provide MTF.
- Only equity shares classified as ‘Group I security’ are eligible for margin trading. If a security moves out of Group I, it becomes ineligible for margin trading.
- Effective February 1, 2025, brokers must collect option premiums upfront. This rule has been implemented to discourage excessive intraday leverage.
- To address high volatility on expiry days, SEBI mandates an additional extreme loss margin (ELM) of 2% for all open short options on the day of expiry.
- Starting November 21, 2024, the minimum trading amount for derivatives has risen from the range of ₹5–10 lakhs to ₹15 lakhs.
- Members are required to open separate demat accounts for funded stocks under the margin trading facility.
- From November 20, 2024, SEBI has reduced the number of weekly expiries for index derivative contracts to one per benchmark index per exchange. The purpose is to restrict speculative activity and lower the risk tied to uncovered option trades.
- Contracts with the same expiry date will no longer support calendar spread trades that offset positions of different expiries.
- Members must keep comprehensive records of all margin trading activities, including client-specific exposure limits, margin calls, and liquidation measures.
- Margin trading accounts must be settled periodically, as specified by SEBI. This includes the settlement of funded stocks and collaterals.
- Members can re-pledge the securities pledged by clients as margin collateral with the clearing corporation or clearing member.
What are the Risks Associated with F&O Margin Trading?
When starting margin trading in derivatives through your Demat Account, consider the following risk factors.
- Just as MTF can amplify your profits, it can also amplify your losses. If the market moves against your position, your losses will be higher because you are trading with borrowed funds.
- When using MTF, you are required to maintain a minimum margin in your trading account. If the value of your positions falls below this level due to adverse market movements, your broker may issue a margin call. If you cannot meet this margin requirement by depositing additional funds, your broker may liquidate your positions to recover the loan.
- Borrowed funds come with interest charges, which can erode your profits over time. If you hold your positions for an extended period, the interest on the loan can add up, potentially making your trades less profitable or even causing losses if the market does not move as expected.
- MTF is designed for short-term trading. It is not a long-term investment strategy. The borrowed funds need to be repaid quickly, which means MTF is best suited for traders who are comfortable with quick decision-making and have a short-term view of the market.
Steps to Start F&O Margin Trading Facility
To start derivative trading using a margin trading facility, follow the steps below:
- Step 1: To begin, you must open demat account and trading account with a broker offering MTF services. Choose a broker who provides competitive margin limits and reasonable fees.
- Step 2: Complete the Know Your Customer (KYC) process and submit the required documents (PAN, Aadhar, bank details).
- Step 3: Ensure your account is enabled for margin trading. Your broker will provide information on the margin percentage required for specific F&O contracts. Your broker will set a margin limit based on your risk profile, available balance, and the contract you are trading in.
- Step 4: Deposit funds into your trading account based on the initial margin requirement for the positions you wish to take.
- Step 5: Choose the underlying asset (stocks, indices, commodities, etc.), select the contract expiry, and decide on the number of contracts.
- Step 6: Choose whether you want to buy or sell call or put options; select the strike price, expiry, and number of contracts. Specify the quantity and place the order. Ensure the order type (limit or market) aligns with your trading strategy.
- Step 7: Continuously monitor the underlying asset’s price movements and your margin level. Set stop-loss orders to manage risk.
Conclusion
A Margin Trading Facility can be valuable for increasing your funds for F&O trades. It allows you to access larger positions and potentially amplify your profits. However, like any form of leverage, it comes with its own set of risks.
If used wisely and with a solid risk management strategy, MTF can allow you to take your F&O trading to the next level. However, always remember that leverage amplifies both gains and losses, so trade carefully and ensure you are prepared for the potential risks.
