Mini Bite: Margin Call Calculation

welcome back to the fifth mini bites

video series where we take five minutes

to discuss each of the most important

CFP exam topics I'm Mike Loong from the

Boston Institute of Finance and in this

mini bite we're gonna take a quick look

at calculating a margin call this is

important to understand for clients in

real life it's also very important for

the the CFP exam so let's break this

down so first just know that there's

actually a formula you can drop numbers

into to come up with that at what level

a margin call will occur pretty easy

formula we just take the debt balance

which is determined by the initial

margin requirement and then the

denominator is 1 minus the maintenance

margin that is spelled out in the

problem so let's break this down and and

throw some numbers at it so here's our

example we have to have various

variables in in a story like this so we

want to look for a few things first off

we have that the stock is trading and

$100 a share and she wants to purchase a

hundred shares so now we know the value

of this transaction is going to be ten

thousand dollars it's also important for

us to look in the story and find the

initial margin requirement 50% very

common so that tells us that the client

is going to put up five thousand dollars

and the broker is going to put up five

thousand dollars in the margin account

last thing is the maintenance margin 30

percent just pay attention in your

problem of what that number is for the

exam it could be different than thirty

percent but it'll be used the same way

each time so we have each of them

putting up five thousand dollars so she

wants to understand then margin call

with three different applications the

first one is probably the easiest one to

think about just on a per share basis

when will a margin call be triggered on

a per share basis so let's drop our

numbers into the equation

we have remember they each put up 50% so

she has $50 debt on each share so that

goes into the numerator $50 and then one

minus the maintenance margin of 30%

gives us 70% or 0.7 in the denominator

do that math and we come to a share

price of 70 $1.43 that's when a margin

call will be triggered another way this

could be tested is on a total account

balance method still is related to the

math we just did but we're talking about

numbers in the account

so here the debt balance in this account

is $5,000 which was the $50 a share

times a hundred but our one minus the

maintenance margin stays the same so we

do that math and we know a margin call

will be triggered triggered when the

account reaches a balance of seven

thousand one hundred forty three dollars

can't go below that without needing some

money to put into the account now the

way this is likely to get tested is when

the stock price reaches a certain level

we know from our previous work that a

margin call we triggered at 70 $1.43 but

now our story is telling us the actual

price of the stock has gone down to $60

so the question is how much is the

client going to need to deposit to cover

this margin call so the first piece we

want to look at is the required equity

which works off of that thirty percent

maintenance margin she has to have at

all times a minimum of 30% of $60 as

required equity so she needs 18 dollars

a share required equity but what she

really has we have the same share price

but she's got $50 debt on each share

doesn't she so her current equity is

only $10 a share meaning she's eight

dollars a share short and she's going to

have to deposit $800 on this margin call

pretty easy point

if you just remember where these numbers

go so thanks for listening the full mini

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