"When misguided public opinion honors what is despicable and despises what is honorable, punishes virtue and rewards vice, encourages what is harmful and discourages what is useful, applauds falsehood and smothers truth under indifference or insult, a nation turns its back on progress and can be restored only by the terrible lessons of catastrophe." … Frederic Bastiat

Evil talks about tolerance only when it’s weak. When it gains the upper hand, its vanity always requires the destruction of the good and the innocent, because the example of good and innocent lives is an ongoing witness against it. So it always has been. So it always will be. And America has no special immunity to becoming an enemy of its own founding beliefs about human freedom, human dignity, the limited power of the state, and the sovereignty of God. – Archbishop Chaput


Friday, November 4, 2011

Further thoughts on the CME maintenance margin hike

In communications with my broker this evening he suggested that this might be a way for the CME to let some of the firms accepting accounts from MF Global off the hook from attempting to make one margin call after another and attempt to complete a huge number of bank wire transactions in such a short period of time.

What struck both of us as extremely odd was the fact that the communique stating that maintenance margin levels were going to be raised to a 1:1 ratio with initial margin requirements was sent later in the evening, AFTER the close of regular business hours with the change in margins being made effective AS OF THE CLOSE OF TRADING NOVEMBER 4, 2011. That means there was no advance notice given as is the usual norm (we generally have a day or two to prepare for the hikes). Actually the notice hit my box TWO HOURS AFTER the close of business on Friday. Anyone whose account is underfunded is on call immediately based on the timing of the raise in the requirement meaning that they go into the opening of trading Sunday evening already all call.

That gives the brokerage firm the RIGHT, but not the obligation or necessity to immediately liquidate all exisiting positions of customers whose accounts are underfunded ( it could be aimed at some of these new transferred accounts which, if accounts are accurate, have received no more than 75% of their original account balances, some having received only 60% of the original balance).

I am not trying to be sensational here; rather I am attempting to work through the implications of all this especially seeing that it is coming in on the heels of a $630 million shortfall with MF Global. Some 15,000 accounts or so have been transferred thus far. I cannot even imagine the efforts involved by brokerage firms attempting to sort through all these new positions on their books because of the transfers and gauge margin requirements against what is left of their remaining account balances. Some of these firms might be thinking it is just easier to liquidate everything that these newly transferred accounts have and then start with a clean slate. A maintenance margin hike to initial margin requirement levels will make it very easy to justify such an approach.

Those who trade commodities sign an agreement stating that the brokerage firm can liquidate existing customer positions in the event of financial hardship. We may be seeing that taking place.

If I can get some more information on this, I will get it posted as soon as I can but we are headed into the weekend so I would think news is going to be very scarce until we get around to market reopenings Sunday evening and into Monday morning. We could be in for a very wild and unsettling round of price volatility starting Sunday evening. This is unprecedented in my own personal trading career so I am not certain what exactly we are going to get as a result of all this.

Maybe we will get lucky and learn that the CME Clearing House issued the communique by accident or something. Boy howdy do I hope that is the case, but I fear it is not.

One last thing - it should be kept in mind that if the markets open strongly to the upside in general on a round of RISK ON trades, it is the SHORTS who are going to be hurt by the margin change. That would force additional short covering. The flip side to all this is that a great number of the transferred MF Global accounts are mainly on the long side of the market and the RISK OFF trades are what come on Sunday evening. Then the longs are in trouble... What a stinking mess caused by these ***&&$$ at MF Global.


  1. Dan - note that the CME's memo said that the "initial/maintenance" ratio was going to 1.0 for all products. That could mean that the initial margin requirements are being LOWERED to the current maintenance levels (as the current initial/maintenance ratios are mostly greater than 1.0)...

    also note the the CME website has not been updated to show initial=maintenance yet for their contract list:


    what happened when you called the CME to ask them the details?

  2. Having been on the margin committees of two different exchanges, I am not surprised one bit at this move. The public does not realize that the margin committee acts to protect and serve the best interests of the membership, not the public.

  3. Kid Dynamite - You are correct in noting that the website has not yet been updated to reflect the new maintenace margin levels. I am watching for that. They would not be lowering initial levels with this sort of financial cloud hanging over their heads

  4. masteroftheuniverse _by the way - that is some handle you have there!

    I agree 100% with your comments. The exchanges and the clearinghouses always first take care of the members. that is why they pay those huge sums of money for seats on the exchange!

    This will make it very easy for the accepting firms to simply liquidate the positions of those new accounts they accepted from MF instead of having to handle all the bank wires and accounting nightmare.

    Thanks for the comments.

  5. http://twitter.com/#!/CMEGroup

    CME is recommending people check out a blog that indicates that margin requirements are being LOWERED to PREVENT margin calls.


  6. Dan, it makes perfect sense for them to lower initial margin - to AVOID triggering margin hikes in the wake of MF custy account transfers.


  7. datkin80- I would find that very difficult to believe - that they LOWERED initial margin rates? The problem with these transferred MF Global accounts is that they are underfunded. with the market volatility INCREASING and not decreasing, very wide and violent price swings across the commodity complex are becoming the norm. It does not take much of a price move in such an environment to wipe out the balances of some of these underfunded accounts, many of which are marginned to the gills.

    The reason why exchanges hike initial and maintenance margin levels during such times is beause they want to guarantee the financial integrity of the Clearinghouse. Remember the only way winners are paid is out of the account balances of the losers. If there is a shortfall of money, the entire clearing process goes up in smoke and so too does the financial integrity of the clearinghouses.

    Lowering the initial margin down to maintenance margin levels would seem to me to guarantee less integrity in the clearinghouses financially speaking.

    Maybe you are correct, but I must admit I do not see it that way at this point. The CME advisory notice is pretty vague in that sense but the ratio of initial margin to maintenance margin has been changed to 1 for all products. My guess is that it means the maintenance level rises to the same level as initial and not the other way around.

    If I am wrong, as soon as I find out, I will certainly put up a correction but that is how I am interpreting this right now, without any further information from the CME.

    It seems to me that this is one way to let the accepting brokerage firms clean out those newly transferred account positions very quickly and avoid all the headaches from having to get THOUSANDS of bank wires down within a 24 hour period.

    We'll see.

  8. Kid Dynamite;

    thanks for the post. please see my response to datkin80 where I give my reasoning for the opposite.

    The clearing house settlement process necessitates that there be sufficient monies in the client accounts for winners to be paid out of the losers accounts. every single one of those newly transferred accounts got hit with a substantial reduction in the monies in their accounts. What happens to the entire settlement or clearing process if there are insufficient funds in those accounts to make good on what they are required to pay out in the event of losses on their existing positions?

    I am of the view that the exchanges and clearinghouse will do what is best for their members and clearing firms not necessarily what is best for traders.

    Maybe you are right but I do not see it this way at this time.

    We'll see. If I have interpreted that advisory notice incorrectly, I will certainly post a correction to it as soon as I can find out anything further.


  9. Dan - the CME has published a clarification.


    lowered initial, to avoid massive margin calls to transferred MF accounts. As I expected.

    the goal is precisely to avoid having to "clean out those newly transferred account positions very quickly "... no one wants that to happen.

    the problem is that when the MF custy accounts are transferred, it triggers "INITIAL" requirements again, cause it's at a new clearing firm. No real need for that - as long as they meet existing maintenance requirements - hence the chance.

  10. Kid Dynamite - many thanks for staying with this and for your follow through. I have given you some well deserved kudos!

    I am surprised however to see this considering the extent of the volatility in these markets and the extremely wide price swings. My guess is that this will not last very long and they will move to quickly reinstate the higher initial margins as is the norm.

    Again, thanks

  11. Dan - the other weird question is now this: if these account only have posted the maintenance margin, does it mean that they will have margin calls each and every day equal to any adverse move in the underlying instrument? It seems so... Obviously, formerly such margin call triggers would bring accounts back into compliance with the "cushioned" initial margin level, which was higher.. now, there's no cushion, so they'll have to re-up every time their position moves against them.

  12. Kid - that is EXACTLY what i have been wondering also. Once their account balances drop below maintenance levels, then what?

    Maybe the thinking is that they can exit losing positions in a more orderly manner rather than the initial potential of having a mandatory liquidation enforced upon them?

    That would have necessitated a wholesale bout of buying or selling Sunday evening among these transferred MF Global accounts as I was originally fearing causing some very wild price swings into air pockets both above and below the markets. This new method can at least have the actual account owners given a bit of time to make a decision as to whether or not they want to continue holding the positions and perhaps finding some additional source of cash or just liquidating the positions altogether.

    I think the exchanges are going to have to clarify further...

    Let's see what we can find out....

  13. Kid, nice call with your first feedback and both Kid and Dan, thank you for the very constructive discussion.


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