What Is “Initial Margin” in Derivatives Trading?
Initial margin is the collateral that a trader must post with the broker or clearing house before they can open a derivatives position. It is designed to cover the potential maximum loss that the position could incur over a short period, typically one or two days, with a high degree of confidence.
It acts as a performance bond to ensure the trader can cover potential losses.
Glossar
Performance Bond
Collateral ⎊ A performance bond within cryptocurrency derivatives functions as a mechanism to mitigate counterparty credit risk, representing a quantified commitment ensuring contractual obligations are met, particularly in perpetual swaps or futures contracts.
Broker
Delegation ⎊ In the context of decentralized finance, the function of a broker is often delegated to smart contracts or non-custodial execution layers, removing direct counterparty risk.
Collateral
Requirement ⎊ Collateral in derivatives trading represents the assets pledged by a market participant to secure their obligations, mitigating the counterparty risk associated with open positions.
Clearing House
Settlement ⎊ A clearing house, within cryptocurrency and derivatives markets, functions as an intermediary between buyers and sellers, mitigating counterparty risk through a process of novation ⎊ replacing original trade agreements with new ones directly with the clearing house.
Initial Margin
Collateral ⎊ Initial margin represents the equity a trader must deposit with a broker or exchange as a good faith commitment to cover potential losses arising from derivative positions, notably within cryptocurrency markets.
Leverage
Amplification ⎊ Leverage, within cryptocurrency, options, and derivatives, represents the utilization of borrowed capital to increase the potential return of an investment, fundamentally altering risk-reward profiles.