How To Get Margin Benefit From Stock Exchange?



In one of our blogs, we have discussed SEBI’s new peak margin rules. Because of these new rules, the margin requirement for futures and options trading has increased approximately 2 lakhs to 3 lakhs. If you are trading in futures or want to sell options, then according to SEBI (Securities and Exchange Board of India) having the hedged position results in a low margin requirement. In this blog, we are going to discuss the strategy on how to get margin benefits from the stock market? how people with a bullish mindset can get margin benefit from stock exchanges (such as NSE India and BSE India, etc.), how to square off your positions to avoid margin shortfall and margin shortfall penalty, and how to deal with SEBI’s new margin rules? Overall, this blog will be the complete package for you and it will help you a lot in taking margin benefits from the stock exchange. Also, we are going to share some hedging strategies by which you can take margin benefits and avoid margin shortfall penalties.


How to get Margin Benefit with Bullish Sentiment?

If you have a bullish sentiment then you must be thinking that BANKNIFTY will go up. In such a case you can execute like this:

  • You BUY a future as you have a view that the market might go up and you can earn good profit or short a PUT option because by shorting PUT you will get the premium which you are using to short the PUT option. OR

  • You buy a CALL option. If you buy the CALL option you will require a capital equal to premium multiplied by lot size (i.e., Capital= Premium x lot size) which is very less. Margin requirement will be high to buy a future or while selling option with PE. Now we will see how you can minimize this margin requirement.


Case 1

Let’s refer to the image below, according to the sentiment that the market will go up, suppose you bought 25 BANKNIFTY overnight future. When you buy these futures, as per the SEBI’s new margin rules you will require a premium of Rs. 1,73,481. That means you need to have a minimum of Rs. 1,73,481 in your account to buy this stock and to hold it overnight in your account.

Now see the payoff chart for this position. From the payoff chart, you will get an idea about the breakeven point, also you will get an idea about how much profit or loss will you make if the share market moves (such as NSE India and BSE India, etc.) up or down.


From the payoff chart above, you can see that the profit is unlimited but the loss is also unlimited. Therefore, this position is not a hedge as it has an unlimited loss. To limit this unlimited loss you can either mark a stop-loss or hedge your position. Here you can choose to hedge the position, as hedging the position will reduce your margin requirement.


To hedge the position and to reduce the margin requirement buy a PUT option. You can buy any PUT option depending upon your loss-bearing capacity. For example, consider buying a 34500 PUT option. As soon as you buy a PUT option your maximum losses get limited to Rs. 23,791 which were unlimited before buying this PUT. Also, your margin requirement drops to Rs.54,321 from Rs.1,73,000. (see the image below).

So to get more margin benefits you can mix and match your positions like this. If you buy higher-margin PUT your upfront margin requirement will reduce further.


In this way, you can take margin benefits from the stock exchange under SEBI’s new margin rules. This was the case on how to take margin benefits from the stock exchange when you have bullish sentiment. Let's see how to take the margin benefit if you have bearish sentiment.


How to get Margin Benefit with Bearish Sentiment?

If you have a bearish sentiment, you are sure that the market will go down. So consider shorting the future and buying a CALL. You can make use of a short straddle or strangle strategy. When you have a view that the market will stay in a specific range and you will get profit in that range only, consider the strategy of short strangling.


Case 2

Let's assume that you are sure that on the coming expiry market will close in between the range Rs. 34000 to Rs.37000. So you will short CALL and PUT. Let's see how to take margin benefit. Refer to the image below,

Suppose you short 34000 PUT, the required margin is Rs. 1,34,123 which is very high. Now to further reduce this margin requirement you will buy 37000 CALL, this process is called a short-strangle. If the market closes between Rs. 34000 to Rs. 37000 then you will surely get a profit. But in this case margin requirement is still high because your position is not hedged.


When you bought the first position the required margin was 1,35000, for the second position your margin requirement drops to 70000. Here many traders will interpret it in a wrong way that only for shorting the CALL 70000 margin was required. For the people who perform short straddle and strangle, the premium of both the positions won't differ too much.


Do you remember that as in bullish sentiment while you bought the future, the margin required dropped to almost 3 times low after buying PUT? but why in this case margin requirement won’t drop? Why is it still high? It is because of SEBI’s new rules. Refer to the diagram below,

From the payoff chart above, you can interpret that maximum loss is unlimited which means the position is not hedged, this is the reason for the high margin requirement.


Why is loss unlimited here? Though you have a strong view that the market will stay between Rs. 34000 to Rs. 37000 range only but what if in some unforeseen event market goes below Rs. 34000 or above Rs. 37000?. In that case, you will have unlimited risk.


As in the graph, your maximum profit is Rs.1700 and your maximum loss is unlimited; as your loss is unlimited, your position is not hedged. Therefore your margin requirement is quite high i.e Rs.1,35,000. Remember that whenever there is an unlimited loss position you have to pay the upfront margin. If you hedge the position and limit the losses your margin requirement drastically drops. Therefore to take margin benefits you need to buy the deep OTM CALL and PUT option.


So here, to hedge the position you need to buy a 34,500 CALL option (for example Rs. 500 up-down) and check margin requirement. See the image below,

Here Margin dropped but not up to that much extent because you have provided hedging from only one side. To drop the margin further you need to hedge the position from another side also. You can do that by buying a 37500 CALL option. As soon as you buy 37500 CALL the margin dropped to almost 3 times less than the one required without hedging. (Refer to the image below).

Now observe the payoff chart for this position. Here not only the loss got limited but the profit also got reduced to Rs. 800 from Rs. 1700. But the plus point is that you can buy 3 such positions in the same capital. So even if your profit limits to Rs.800, by buying three such positions you can have a profit equal to 3 times 800 which is equal to 2400 (3x800=2400) which is obviously more than 1700.


Note

You must have Rs. 1 lakh to 1.5 lakh in your account for buying initial trades. As margin requirement reduces because of hedging and to hedge the position you first need to buy the position.

How to exit position safely to avoid margin shortfall penalty?

Many traders do the wrong exit and call the margin shortfall penalty. So to avoid that you have to sell your risky position first and then sell your hedging position. If you sell your hedging positions first then your risky position again falls in an unlimited loss scenario thereby increasing the margin requirement and if you don't have that much money in your account, SEBI will charge a margin shortfall penalty. Wherever there is an unlimited loss scenario in futures and options, you must sell the position with unlimited loss first, to avoid margin shortfall.


In this way, you can practice this to get margin benefits from the exchange and also to avoid the margin shortfall penalty. Hope you found this blog helps you. We advise you to make use of such strategies to take maximum benefit from the stock exchange with the SEBI’s new margin rules.


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