A Margin Call is generated when the equity balance in an account drops below the margin requirement for the account. If the maximum allowable leverage has been exceeded, once the margin level is equal or less than 50% the positions with more risk to your account are immediately liquidated (Stop Out) to protect the account from a negative balance.
BREAKING DOWN MARGIN CALL
A margin call is a term for when a broker requests a margin (deposit) from a trader, in order to keep a leveraged trade open.
A margin call is triggered when the investor's equity as a percentage of the total market value of securities falls below a certain percentage requirement, which is called the maintenance margin.
Margin trades, such as CFDs – require a certain amount of funds to remain open.
If a trade loses money and the funds in your account are no longer enough to keep the position open, you can either fund your account or close open trades to free more available margin to your trading account.
Leverage is often referred to as a double-edged sword. The purpose of that statement is that the larger leverage you use to hold a trade that is greater than your account balance, the less usable margin you have to absorb any losses. The sword only cuts deeper if an over-leveraged trade goes against you as the gains can quickly deplete your account and when your usable margin % hits the limit set by the broker, you will receive a margin call. This only gives further credence to the tactic of using protective stops while keeping your losses as short as possible and control your leverage.
HOW TO AVOID MARGIN CALLS?
Understanding what a margin call is is the first step in knowing how to avoid one. Many traders tend to focus on other aspects of trading such as stop loss or entry price levels, but little thought is given to other important elements such as margin requirements, maintenance margin requirements and so on.
Margin call is when maintenance margin falls below a certain limit.
One of the biggest reasons why a trader would be hit by a margin call is partly because of not knowing what causes a margin call and therefore allocating trade sizes without a knowledge of margin requirements.
A margin call occurs when a trader's equity falls below the minimum maintenance margin requirement. It is simply the broker's demand for the investor to top up their account to meet the minimum margin requirements. Although most of this is now automated and you won't really be getting a call from your broker. In your NAGA Trader account, you can easily check your margin level in real time.
Every instrument that you trade on margin is subject to the initial margin, which is the collateral that you post to trade on margin and the maintenance margin (available funds) that you must have in your account at all times to keep your position active in the market.
USING STOP LOSS TO AVOID MARGIN CALLS
A stop-loss order is basically a stop order sent to the broker as a pending order. This order is triggered when the price moves against your trade’s direction. For example, if you were long on AAPL at $100, you would set your stop loss at $95.00. This means that when AAPL's price falls to $95.00 your stop order is triggered and your long position is closed for a $5 loss. Now imagine trading without a stop loss order in this example and APPL's price continued to fall. Sooner or later, depending on the position size, your account would trigger a margin call.
When using stop-loss orders, traders should bear in mind that the margin requirements remain the same. Meaning, if you were trading one lot in S&P500 futures, and the margin requirement was $500, then regardless of whether you use a stop loss order, the $500 margin is locked in. You also need to have a healthy maintenance margin as well.
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