Contracts For Difference: Defining Initial Margins And Variation Margins
How CFDs are Priced
The pricing of contracts for difference mirrors the pricing of the underlying share or security, and like buying and selling shares, a commission is calculated on the transaction. Many of the main CFD providers charge the fee as a percentage structure with 0.10% being considered a competitive dealing commission (which is very good when you consider that some CFD brokers used to charge in excess of 0.25% a couple of years back).
Initial Margin
Initial Margin refers to an upfront deposit that your provider will require as collateral to allow you to open a CFD trade. This margin is held by the CFD broker to make sure you can meet your payment obligations. The margin rate is usually expressed as a percentage and calculated based on the liquidity and volatility of the underlying share or market. The Initial Margin rate can be anything from 1% for very liquid instruments to up to 75% for Small Caps. Naturally it makes sense to find a provider who is able to offer you competitive margin rates as otherwise you will have to tie more money to a position. For instance it wouldn't make much sense to trade an instrument with a 75% initial margin since you would be better off buying the shares outright. Initial Margin deposit requirements for forex pairs are usually lower than those for shares as shares tend to be more volatile whereas it is less likely for a currency to experience huge swings in a relatively short period of time.
Margin requirements for CFD positions are calculated using the mark to market which simply means that the valuation of the position is re-calculated each trading day. The margin is then adjusted to reflect the present value of the position as the price of the underlying share fluctuates. Note that additional margin payments may be required if you fail to maintain adequate margin on your position.
Variation Margin
In addition to the initial margin you also need to take into consideration the additional margin that may be incurred by an adverse price movement against your position; this is known as Variation Margin (sometimes referred to as Maintenance Margin). Variation or Maintenance Margin is based on the intraday market to market re-evaluation of the contract for difference trade. For instance, if you have a long trade on a stock and the stock falls, then you have to pay a Maintenance Margin to cover the shortfall incurred in margin by the adverse price movement. Likewise, if you have a short position and the price falls, you would get a a Variation Margin equivalent to the positive movement in the value of the position.
The pricing of contracts for difference mirrors the pricing of the underlying share or security, and like buying and selling shares, a commission is calculated on the transaction. Many of the main CFD providers charge the fee as a percentage structure with 0.10% being considered a competitive dealing commission (which is very good when you consider that some CFD brokers used to charge in excess of 0.25% a couple of years back).
Initial Margin
Initial Margin refers to an upfront deposit that your provider will require as collateral to allow you to open a CFD trade. This margin is held by the CFD broker to make sure you can meet your payment obligations. The margin rate is usually expressed as a percentage and calculated based on the liquidity and volatility of the underlying share or market. The Initial Margin rate can be anything from 1% for very liquid instruments to up to 75% for Small Caps. Naturally it makes sense to find a provider who is able to offer you competitive margin rates as otherwise you will have to tie more money to a position. For instance it wouldn't make much sense to trade an instrument with a 75% initial margin since you would be better off buying the shares outright. Initial Margin deposit requirements for forex pairs are usually lower than those for shares as shares tend to be more volatile whereas it is less likely for a currency to experience huge swings in a relatively short period of time.
Margin requirements for CFD positions are calculated using the mark to market which simply means that the valuation of the position is re-calculated each trading day. The margin is then adjusted to reflect the present value of the position as the price of the underlying share fluctuates. Note that additional margin payments may be required if you fail to maintain adequate margin on your position.
Variation Margin
In addition to the initial margin you also need to take into consideration the additional margin that may be incurred by an adverse price movement against your position; this is known as Variation Margin (sometimes referred to as Maintenance Margin). Variation or Maintenance Margin is based on the intraday market to market re-evaluation of the contract for difference trade. For instance, if you have a long trade on a stock and the stock falls, then you have to pay a Maintenance Margin to cover the shortfall incurred in margin by the adverse price movement. Likewise, if you have a short position and the price falls, you would get a a Variation Margin equivalent to the positive movement in the value of the position.
