Combined margin and more

Unlikely to be hugely tested, some clients would have combined margin accounts, both long positions, and short positions in the same account. The idea of combined margin positions looks complicated, but they are simply combining both the long equations, and the short equations together, at the same time; $LMV-DB=E{Q}_{long}$ and $CR-SMV=E{Q}_{short}$ into $(LMV-DR)+(CR-SMV)=E{Q}_{combined}$

Additional margin considerations

Excess equity

When the customer equity, $EQ$, in a margin account is above the minimum equity requirement governed by Regulation T, given the current market values, that is what creates excess equity. In both long and short, you need to figure out what the Reg T required equity is, given the new LMV or SMV, and compare it to the equity that the client actually has using the LMV or SMV along with the DR or CR originally calculated when the margin account was set up.

Long excess equity examples

The client purchased $\$100,000$ of securities and deposited the required $\$50,000$ Reg T deposit. With having a long market value of $\$100,000$, the required equity is 50%, which is $\$50,000$, and they have $\$50,000$, so there is no excess equity. If instead they deposited $\$75,000$, then the value is still $\$100,000$, it still has a required equity of $\$50,000$, but they have $\$75,000$, which means they have excess of $\$25,000$. The same idea would happen with the original example, with the $\$50,000$ deposit, just a bit more complicated. Now the account has grown to a value of $\$150,000$. We have a $DR$ still of $\$50,000$, as we deposited $\$50,000$ in buying the $\$100,000$, so we have a $DR$ of $\$50,000$, meaning we have an equity in the account of $\$150,000$-$\$50,000$=$\$100,000$. With a LMV of $\$150,000$, the required equity is $\$75,000$, but we have $\$100,000$, again, $\$25,000$ excess.

Short excess equity examples

A client short sells $\$30,000$ and makes the required deposit. This has a SMV of $\$30,000$, required $EQ$ deposit of $\$15,000$, $CR$ is therefore $\$45,000$, and $CR$-SMV=$\$15,000$, so everything is balanced, no excess equity. If instead they had deposited $20k, they have a $CR$ of $\$50,000$, so with a SMV of $\$30,000$, $CR$-SMV=$20k, no excess equity. If instead we made the required $\$15,000$ deposit, and the market price of the security fell to $\$25,000$. As we are back with the $CR$ of $\$45,000$ ($\$30,000$ short value + $\$15,000$ Reg T deposit), analyzing now, $CR$-SMV=$\$45,000$-$\$25,000$=$20k in equity. The SMV of the account is $\$25,000$, meaning we would actually need to have $12,500 in required equity, but we have $20,000. That is excess equity of $7,500 in this case.

Special Memorandum Account (SMA)

Effectively, a credit account is created with excess equity in a margin account. It can be taken as cash, or can be used to buy additional securities, or short additional securities.

Most likely questions regarding affecting SMA, if seen, will be on long accounts, that is where we will focus, but the short is similar. When cash is withdrawn from SMA, it isn’t actually “cash in the account”, you didn’t sell anything to realize cash, it is effectively a loan from the broker-dealer, meaning every dollar withdrawn from SMA will increase the DR by $1. That is how it keeps in balance.

SMA is created from excess equity, but it is marked to the market each day, and SMA can’t go down; it locks in the credit the broker-dealer is willing to lend, and if markets go opposite, it won’t rise again until a new high water mark, but SMA doesn’t go down, unless it is used.

Client purchased $50k in securities, making the required deposit, and the value grows to $60k. There is an initial equity of $25k, and DR of $25k. Currently, the LMV is $60k, meaning $60k-25k=35k in equity right now. We have $30k required on $60k LMV, we have actual equity of $35k, therefore excess equity of $5k. If we withdrew this, then the LMV would still be $60k, the market hasn’t changed, and our DR goes from $25k to $30k as we have to add the withdraw to this. So LMV is $60k, DR is $30k, EQ is $30k, all balanced, at 50%, as we withdrew all of the excess equity, all of the SMA.

Similarly, in a short account, if there is SMA, if withdrawn as cash, it decreases the CR dollar for dollar. If there was $10k in SMA, and they withdrew $5k of it, that effect of the loan, is a reduction in the initial credit register, as opposed to an increase in the debit register of a long margin account.

For every $1 rise in LMV in a long account, the SMA increases by $0.50. For every $1 fall in SMV in a short account, the SMA increases by $1.50.

Buying power

Buying power is how much you can buy with your current margin account. If the required deposit, Reg T is made, then there can be no additional borrowing, no additional buying power. You wanted to buy $50k, you deposited $25k, nothing extra. If instead you deposited $30k, not a problem at all. With $30k though, you COULD have bought $60k worth of securities, but you only bought $50k. With your $30k in equity and your $50k in value in the account, you have $10k of buying power; the broker-dealer is willing to lend you $10k more to invest.

In simplest terms, remember cash is twice its value in buying power, because of the 50% Reg T value, but fully paid securities only have equal buying power, because they are worth 50% in cash, due to Reg T again, and that 50% in cash, would therefore buy twice as much, or 100% of the fully paid securities. Cash doubles, fully paid securities are just equal value.

As SMA can be withdrawn in cash or buying power, it is effectively a line of credit; buying power is twice the value of the SMA.

Restricted accounts

Accounts become restricted when the customer’s equity in the account falls below 50%. This is not a maintenance call, that is when it falls below 25% for long, or 30% for short account, this is simply when it is below 50% equity. When an account is restricted, there are rules put in place for any. You can still do closing transactions, but 50% of any proceeds must be used to reduce the debit or credit balance. Transferring funds from the SMA will not remove a restriction, as SMA is effectively a line of credit. To remove restrictions, the LMV or SMV must move into the territory where the customer generates equity (up high enough for LMV, down low enough for SMV), or the customer must deposit more cash, or fully paid securities into the account, increasing their equity portion to above 50%.