If you’ve been looking to learn the ins and outs of purchasing stocks, you may have come across a type of contract known as an option. Options contracts represent a stock investment strategy that involves a measure of “betting” on the decline or rise in price of a certain stock — and securing the right to purchase or sell shares when a stock reaches a particular price. But rather than acting solely on predictions when making this type of stock purchase, investors have a reliable tool that can remove some of the uncertainty and simplify the decision-making process.
Options margin calculators help compile a number of important details and process these data into a total estimated cost for one or many options contracts. Investors who utilize these online tools have the advantage of using clear data to guide their decisions, effectively increasing their likelihood of investing in stocks that’ll potentially have higher returns (or knowing when it’s better to sell off a stock). Before you call up your broker or open an online trading platform, learn more about how an options margin calculator can help you make better-informed investment decisions.
What Are Options Margins?
Options margins are amounts of money (or, in some cases, securities such as stocks or bonds) an investor must have in their investment account before they’re permitted to initiate an options contract. Margins serve as a form of collateral an investor uses to secure the contract. The amount of money required — whether it’s in the form of cash or a security — is determined by both federal regulations and the commercial brokerage that’s executing the trade. Federal agencies establish minimum margins for different types of investments and options contract scenarios. In addition to these regulatory minimums, each brokerage can increase margins for the investors who make trades through the brokerage.
These increases pay the brokerage and further protect it from potential loss in executing different options contracts. Investors need clearance from their brokerage to enter into options contracts and to open options margin accounts. Most investors get the full benefits of these accounts by depositing more than they’re required to.
An options margin is, in a sense, a “ticket for entry.” In the most traditional circumstances, this collateral pays for the investor’s right to participate in an options contract. It doesn’t guarantee that the contract will be executed, and the money involved in the margin usually has no bearing on the options contract itself.
What Are the Benefits of Using Options Margins?
Options margins give you the opportunity to increase your buying power as an investor. Because these amounts are held as collateral for options contracts, the required amount for a margin remains in an investment account. You can take out loans against your margin to purchase more stocks; essentially, it’s like getting money from your brokerage firm to cover part of your payment for purchasing options. These loans can finance up to half the price of buying more shares. Keep in mind that you’ll need to pay them back, and there are often interest charges involved.
Borrowing against a margin isn’t possible for every investor or every brokerage: You’ll need approval from your brokerage to execute these contracts. Although you must eventually repay the money, the timing is more flexible than that of a traditional loan. Regardless of the amount you borrow from your brokerage, the minimum required margin must always remain in your designated margin account.
Some investors take the benefit a step further by borrowing against margin accounts to short sell stocks that are expected to decrease in value back to the brokerage. Although this is a risky endeavor, it provides the possibility of profiting and getting rid of declining stocks from your portfolio at the same time.
How to Use an Options Margin Calculator — and What It Tells You
When you’re working with options margins, there’s plenty of potential for both risk and reward, and you’ll need to make some informed decisions before you execute contracts. That’s where options margins calculators come in. These highly specialized tools can calculate the possible outcomes of several investing scenarios at once, creating a clearer picture for you of the ways your investment might play out.
You stand to make large profits from lucrative deals financed partially through your margin account, but, at the same time, you’re required to maintain the minimum balance in each margin account. However, similarly to all investments, some options contracts will also result in a loss — profit isn’t guaranteed. Maintaining your required balance becomes more complicated as you purchase more stocks and initiate more options because different shares have different required margins.
Before making any decisions, it’s essential to understand how purchasing an options contract will impact your margin account. The minimum required margin can change because of two distinct circumstances: entrance into new options contracts and changes to the price of stocks that you already own. It’s best practice to use the options calculator that the brokerage you trade with provides. This tool will have the correct fees the brokerage adds to the minimum margin, and it’ll allow you to process scenarios that include the stocks you can actually (or already) own. ETrade, Fidelity and TD Ameritrade are a few brokerages that have options margin calculators. If you don’t utilize these brokerages, keep in mind that the full versions of the tools are typically only available to customers.
To understand how a proposed trade will impact your margin account, you need to know the stocks you’ll include in the trade, along with relevant details — such as the number of shares involved and the premium amount — of the potential options contracts you might enter. To understand how a potential price change will impact your margin account, you need to identify the predicted price change.
In both circumstances, the results of the scenarios are displayed in two tables after you plug your details into the calculator. The first table displays the name, price, quantity and position value of the stock in one set of columns. Then, the margin requirements are displayed in another set of columns. One column shows whether the margin for that particular stock is a percentage or a flat dollar amount. Next, the table calculates the dollar amount needed to meet the margin requirement for the stock in the scenario. Finally, the table displays the change between the existing margin requirement and the hypothetical one.
Most options margin calculators have another table that displays the most significant set of information. The second table displays the actual margin buying power, non-margin buying power and margin debt. Another column displays the changes to each number that would result from the hypothetical trading scenario. Margin buying power represents all the money in your brokerage account. Non-margin buying power is money outside of the margin account that you’ve also deposited to fund the purchase. Margin debt is the amount of money you’ve already borrowed against your margin account.
Common margin calculators allow you to process up to five potential situations in one calculation. You’ll use the data to see if you have enough in your margin account to cover the required minimum for executing new options contracts. These calculators also show you whether there are enough funds in your margin account to finance a proposed trade. Finally, options margin calculators display the true dollar impact of entering into new contracts. These powerful tools help you reliably forecast expected changes in your margin account to help you keep yourself earning and investing wisely.