1️⃣ What is a Margin Call?
A Margin Call occurs when an investor's collateral value in a margin account falls below a certain level,
prompting a broker or financial institution to demand additional funds or securities.
In simple terms, when you borrow money to invest and the value of your investment drops,
the broker asks you to deposit more funds to maintain the required margin.
This is to ensure the loaned amount remains safeguarded against losses.
2️⃣ Why Does a Margin Call Happen?
The main reason for a margin call is a drop in the price of stocks, futures, or options.
When the value of the investment falls, the collateral value decreases,
and the broker demands more funds to cover the risk.
📌 Example:
- Suppose you buy $10,000 worth of stocks by depositing $4,000 as collateral,
and borrowing the remaining $6,000. - The broker sets a maintenance margin ratio of 150%.
- This means you need to maintain a collateral value of $9,000 ($6,000 × 150%).
📉 But what if the stock price drops and your collateral value decreases to $8,000?
- The broker will send you a margin call, demanding $1,000 to meet the shortfall.
- If you fail to deposit the additional funds within the deadline,
the broker will sell your shares to recover the loaned amount. - This process is called Forced Sale (Liquidation).
3️⃣ How Does a Margin Call Work?
✅ 1.Calculating the Maintenance Margin Ratio
- Brokers typically set a maintenance margin ratio of around 140% to 150%.
- If the stock price drops and the account value falls below this ratio,
it triggers a margin call.
✅ 2. Request for Additional Funds
- The broker sends a margin call notification to the investor,
requesting them to deposit more cash or securities within a specified period.
✅ 3. Forced Liquidation
- If the investor fails to meet the margin call,
the broker will sell the investor's shares to recover the borrowed money. - This is known as a forced liquidation.
4️⃣ Real-World Examples to Understand Margin Calls
📌 Example 1: Margin Call in Stock Credit Trading
- An investor buys $10,000 worth of stocks on margin.
- Due to a sharp drop in the stock price, the account balance falls to $8,000.
- The broker issues a margin call for the shortfall of $1,000.
If the investor fails to deposit additional funds within the deadline:
- The broker will force-sell the shares to recover the loaned amount.
- The investor suffers a loss as the shares are sold at a lower price.
📌 Example 2: Margin Call in Futures or Options Trading
- A futures trader enters a $1 million KOSPI200 futures contract.
- If the market index drops and the account balance falls below the maintenance margin,
the broker triggers a margin call.
💡 What if the trader fails to meet the margin call?
- The futures position is forcibly liquidated,
potentially resulting in substantial losses.
5️⃣ Why Are Margin Calls Important?
✅ 1. Risk Management in Credit Trading
- Margin calls are a way for brokers to manage the risk of lending money to investors.
- When stocks or futures fall in value, brokers ensure the loan is still adequately secured.
✅ 2. Preventing Forced Liquidation (Sell-Off)
- Ignoring a margin call can result in the broker selling your shares to recover their funds.
- This forced sale often happens at market prices,
which can further push the stock price down, amplifying losses.
✅ 3. Increasing Market Volatility
- When margin calls happen on a large scale,
many investors are forced to sell their shares simultaneously,
causing the stock market to drop sharply. - During the 2008 Financial Crisis, margin calls led to mass liquidations,
further accelerating market declines.
💡 Conclusion – How to Prevent Margin Calls?
Margin Calls are an inevitable risk when engaging in credit trading.
To prevent them, it’s crucial to:
- Regularly check the maintenance margin ratio
- Always keep sufficient cash reserves to cover potential margin calls
- Implement a risk management strategy when using leverage
📌 Margin trading can amplify both gains and losses,
but without proper risk management, even small market drops can lead to significant losses.
