What is meant by margin requirement? How can it be used to control the money supply? Explain it with the of an example. (2024)

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What is meant by margin requirement? How can it be used to control the money supply? Explain it with the of an example.? ›

Margin requirement refers to the difference between the current value of the security offered for loan (called collateral) and the value of loan granted. It is a qualitative method of credit control adopted by the central bank in order to stabilize the economy from inflation or deflation.

For example, if a crude oil futures contract is quoted at $100,000, a futures account holder can enter a long position by posting only $5,000 initial margin, or 5% of the contract value. In other words, this initial margin requirement would give the account holder a 20x leverage factor.

There are two types of margin requirements: initial margin and maintenance margin. Debit margin balance shows the total amount of money owed by the account holder (borrower) to the broker (lender), while credit margin balance usually shows funds that were credited to the account due to a short sale.

First buy order creates a buy position and acts as hedge so the next sell order will require a lesser margin. Note: 1. As explained above, reducing margin involves 1 more buy order to be placed along with the original sell order, so if executed brokerage will be charged as that of 2 orders.

Hence, investors use margin money to buy short-term investments or securities. The investors can pay the debt in short periods and avoid high interest on the loan. Long-term loans accumulate interest over time. As the total debt increases the odds of repaying the loan go against the borrower.

In the business world, margin is the difference between the price at which a product is sold and the costs associated with making or selling the product (or cost of goods sold). Broadly speaking, a company's margin is its ratio of profit to revenue.

For our example, let's assume that the initial margin requirement is 50% of the total purchase price, which, in this case, is $1,000. In order to acquire the full 100 shares that the investor wants, he or she would need to have at least $1,000 in their trading account to meet the initial 50% margin requirement.

The Federal Reserve's Regulation T sets the rules for margin requirements. There is an initial margin requirement, which represents the margin at the time of the purchase.

A margin requirement of 100% means that you need $1 to buy $1 worth of stock. It's unrelated to whether your $1 comes from cash or from available margin on your account. You can have a margin account with a 100% overnight borrow ability which essentially means that the broker loans you money.

For example, a firm may increase its house margin requirements when a company is bankrupt, delisted (no longer trades on an exchange) or experiencing large daily price swings (volatility).

How do you control margin? ›

An increase in margin requirements would stop the borrower to take loan as the value of its security would not lend him the amount he need and therefore it will happen for all general public and would lead to decrease in money supply.

During deficient demand or deflation, the central bank decreases the margin in order to increase the credit creation capacity of the commercial bank and as a result, the money supply in an economy gets increased and the deficient demand is combated.

For example- a person mortgages his house worth one crore rupees with the bank for a loan of 80 lakh rupees . The margin requirement in this case will be 20 lakh rupees.

Margin requirement refers to the amount of security that banks demand from the borrower of loan. It is the difference between market value of security offered for loans and the amount of loan.

It is a window into the financial health of a company. It measures production and business efficiencies. It can help with setting the selling price of a product and competitive analysis. Gross margins can identify potential problems before they hurt the bottom line.

Once you borrow on margin, you are required to maintain a certain amount of equity. in your account, depending on the securities you hold. The typical equity maintenance requirement. is at least 30% of the total account value but can be higher for certain securities or accounts.

Calculation: revenue - cost = gross profit ÷ revenue x 100 = margin. For example, if your revenue on a given project is currently $54,000 and your costs are $46,000 your exact margin will be 14.8%. Example calculation: 54,000 - 46,000 = 8,000 ÷ 54,000 x 100 = 14.8%.

Practical Example

To purchase 100 shares of ABC Company at $50 per share, a total market value of $5,000, John must contribute a 50% initial) margin. Therefore, the amount of equity (cash) that John must contribute is $5,000 x 50% =$2,500.

If the maintenance margin is set at 25% of the total value of the securities in a margin account — per FINRA requirements — the investor will be allowed to keep the positions open as long as the equity does not fall below the 25% maintenance margin.