How much can maintenance margin requirements increase during a crash?

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hungrywave
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How much can maintenance margin requirements increase during a crash?

Post by hungrywave » Thu Aug 22, 2019 9:21 pm

3/13/2020 UPDATE: IBKR just released this announcement: "[BBSMSG Bulletin] To all traders: Fri Mar 13 14:34:21 2020 EST In response to extreme market volatility and substantially increased risk sentiment in global markets, we are taking the following steps with immediate effect: 1. Intraday margin discounts remain suspended until further notice. 2. Liquidation deferrals: the buffer for activation of liquidations is currently 5%, but may be reduced further as market conditions warrant [Background: under normal market conditions IBKR usually delays liquidations for a period of time during the active trading session when an account is only slightly (less than 10%) under its financial requirements to allow clients to individually manage their risk reduction activities]. 3. We will be deploying re-assessments of margin requirements more frequently and in some cases, on an intraday basis. Clients with positions having exposure to large moves in most asset classes (equity, energies, capital markets, forex, bonds) may expect higher capital requirements on short notice and should consider managing their risk and capital positions in their accounts to anticipate such changes."

Currently, my all-equity index fund portfolio at IBKR is allowed an intraday portfolio margin requirement of 20%, despite the volatility. So, I suspect owning index funds on margin is assessed to be significantly lower risk than owning individual stocks (duh).

MESS UP: I want to highlight a way in which I screwed up while using portfolio margin and attempting to tax loss harvest. 3/12, markets fell ~10%. This pushed my net liquidation value below $100k, which is the minimum amount required for making trades with portfolio margin that increase margin requirements (eg buying stock). I didn't notice this and was eager to tax loss harvest. Thus, I put in my sell order, which went through. However, when I attempted to place a replacement buy order, it wouldn't go through because my net liquidation value was below $100k. Apparently, IBKR allows your portfolio margin to continue without automatic liquidation when your net liquidation value falls below $100k but you may only place trades that decrease your risk/margin requirement (eg selling stock). If your NLV falls below 100k, you may simply wait for the market to recover and/or put more money in in order to buy more stock. (Of course, it is always possible that forced liquidation will occur if you fall below maintenance margin requirements, but that is a different issue.)

=================

Dear Bogleheads,

Thanks to your insights, I am considering using modest (~20%) margin (ie 80% equity) at Interactive Brokers for my globally diversified, low cost portfolio.

I want to control my risk of a severe margin call loss - hence the cap on margin used.

However, what I don’t have a good sense of is how Interactive Brokers’ maintenance margin requirements might change during a crash.

IB’s current maintenance requirement is 25% but that is fairly meaningless to me. What I want to know is how high it could get when the market declines 50% in 1 month. If it went to 50%, it might get tight (and this I would want to do my analysis of cash cushion accordingly).

This article suggests there were at least 3 margin requirement increases at one brokerage in 2008. http://thedisciplinedinvestor.com/blog/ ... st-sp-500/

How high do you think it got?

PS:
The help I have received on this thread and others has been amazing. Thank you!

I made a Google Sheet that allows calculation of how different starting conditions and market declines affect margin. Feel free to copy and play around with it.

The minimum proportion of equity legal is currently 0.25. This is what Interactive Brokers requires. Vanguard requires 0.35. The minimum equity proportion ("margin requirement") can increase during crises - though to what extent is unclear. I have assumed a maintenance margin requirement of 0.40 in my calculations - though this may possibly be too low and will vary depending on what you are investing in. (My understanding is that broad-based funds, such as total market funds, should be allowed by brokerages to have the lowest maintenance equity since they have the lowest risk of permanent capital loss.)

My thinking is that I should be prepared for a market decline of 20% in a single day - as happened in 1987. Thus, I don't want to have so little equity such that a 20% decline would produce a margin call. That would be around 50% (0.50) equity.

Additionally, I want to be able to weather a 50% market decline over the course of a few months without an insurmountable margin call. (Emerging markets lost 60% over 5 months in 2008.) Obviously, what is surmountable depends on cash on hand and cash flow. But avoiding a margin call altogether is best. With the assumption of a 0.4 minimum margin requirement, 0.7 equity (1.4x leverage) is on the threshold of a margin call with a 50% decline.

Thus, for a glide-path to $3M, I plan to have a leveraged, globally-diversified portfolio that starts with 0.7 equity up to $1M, 0.8 equity up to $2M, 0.9 equity up to $3M, and no margin above $3M (with an additional sale of stock to create 3 years of living expenses in a short term bond fund).

Now I just need to cross my fingers and hope for an early bear market followed by an unstoppable bull market. Lolz.
Last edited by hungrywave on Sun Mar 15, 2020 3:00 pm, edited 7 times in total.
The world is largely random so don't sweat the small stuff.

saver007
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Re: How much can maintenance margin requirements increase during a crash?

Post by saver007 » Fri Aug 23, 2019 8:26 pm

It is hard to predict/answer. Brokerages can increase their house margin requirements upto 100% if they want without giving notice.

Unlikely to happen If your portfolio is built with large cap diversified unlevereged ETFs but more likely if your portfolio is built with risky small cap single stocks.

Topic Author
hungrywave
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Re: How much can maintenance margin requirements increase during a crash?

Post by hungrywave » Fri Aug 23, 2019 8:36 pm

saver007 wrote:
Fri Aug 23, 2019 8:26 pm
It is hard to predict/answer. Brokerages can increase their house margin requirements upto 100% if they want without giving notice.

Unlikely to happen If your portfolio is built with large cap diversified unlevereged ETFs but more likely if your portfolio is built with risky small cap single stocks.
Thank you! Do you think planning around a one day loss of 20% (like 1987), one month loss of 50% (accelerated 2008), and an increase in maintenance margin requirement to 40% is a reasonable way to minimize the risk of a margin call? Based on my calculations and cash flow, these assumptions would suggest that 20% margin loan would be on the threshold of generating a margin call with a 1 day loss of 20% and an increase in maintenance to 40%. What do you think?

I would be using sub-indices such as VBR and VSS - so slightly higher volatility than total market funds.
The world is largely random so don't sweat the small stuff.

alex_686
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Re: How much can maintenance margin requirements increase during a crash?

Post by alex_686 » Fri Aug 23, 2019 8:52 pm

saver007 wrote:
Fri Aug 23, 2019 8:26 pm
It is hard to predict/answer. Brokerages can increase their house margin requirements upto 100% if they want without giving notice.

Unlikely to happen If your portfolio is built with large cap diversified unlevereged ETFs but more likely if your portfolio is built with risky small cap single stocks.
I was on the margin desk during the dot.com boom and bust, plus 9/11. This is technical true, but as Saver007 suggests unlikely. The first priority is to protect the firm, the second is not to blow up too many clients.

That being said, if you are going to go on margin, you need to be prepared to sell. I am not sure why you wouldn’t want to sell. Most of the reasons I heard we irrational and could be traced to cognitive defects covered in my behavior finance classes.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.

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Steve Reading
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Re: How much can maintenance margin requirements increase during a crash?

Post by Steve Reading » Fri Aug 23, 2019 8:54 pm

hungrywave wrote:
Fri Aug 23, 2019 8:36 pm
Do you think planning around a one day loss of 20% (like 1987), one month loss of 50% (accelerated 2008), and an increase in maintenance margin requirement to 40% is a reasonable way to minimize the risk of a margin call?
That sounds reasonable to me.
hungrywave wrote:
Fri Aug 23, 2019 8:36 pm
Based on my calculations and cash flow, these assumptions would suggest that 20% margin loan would be on the threshold of generating a margin call with a 1 day loss of 20% and an increase in maintenance to 40%. What do you think?
I recently posted the formula to figure this out so I dug it back to plug in the numbers from this thread:
viewtopic.php?t=288303

Imagine my surprise when I noticed you were the OP as well!

Any ways:
(100*(1-x) - initial margin loan(%))/(100*(1-x)) = Maintenance margin required (%)
where x represents the smallest one day loss that will trigger a call. So:

(100*(1-x) - 20)/(100*(1-x)) = 40
Plug that in to Wolfram Alpha.
Solve for x and you get 66.6%. You'd need a 66.6% drop before a position with 20% margin borrowing (and 80% equity) becomes a position with 60% margin borrowing (and 40% of leftover equity). At which point you'll get a margin call.

May I ask how you're calculating this?

saver007
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Re: How much can maintenance margin requirements increase during a crash?

Post by saver007 » Fri Aug 23, 2019 9:34 pm

hungrywave wrote:
Fri Aug 23, 2019 8:36 pm
saver007 wrote:
Fri Aug 23, 2019 8:26 pm
It is hard to predict/answer. Brokerages can increase their house margin requirements upto 100% if they want without giving notice.

Unlikely to happen If your portfolio is built with large cap diversified unlevereged ETFs but more likely if your portfolio is built with risky small cap single stocks.
Thank you! Do you think planning around a one day loss of 20% (like 1987), one month loss of 50% (accelerated 2008), and an increase in maintenance margin requirement to 40% is a reasonable way to minimize the risk of a margin call? Based on my calculations and cash flow, these assumptions would suggest that 20% margin loan would be on the threshold of generating a margin call with a 1 day loss of 20% and an increase in maintenance to 40%. What do you think?

I would be using sub-indices such as VBR and VSS - so slightly higher volatility than total market funds.
I think this is reasonable approach as long as you are not investing in single stocks. Appart from selling, you can also buy put options to decrease margin requirements if there is a crises.
IB has a margin statement that you should periodically review
.
Also check out their portfolio margin program if your account equity is above 100,000 USD. Portfolio margin requirements can be lower but calculation is less transparent.

Topic Author
hungrywave
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Re: How much can maintenance margin requirements increase during a crash?

Post by hungrywave » Mon Aug 26, 2019 2:17 am

305pelusa wrote:
Fri Aug 23, 2019 8:54 pm
hungrywave wrote:
Fri Aug 23, 2019 8:36 pm
Do you think planning around a one day loss of 20% (like 1987), one month loss of 50% (accelerated 2008), and an increase in maintenance margin requirement to 40% is a reasonable way to minimize the risk of a margin call?
That sounds reasonable to me.
hungrywave wrote:
Fri Aug 23, 2019 8:36 pm
Based on my calculations and cash flow, these assumptions would suggest that 20% margin loan would be on the threshold of generating a margin call with a 1 day loss of 20% and an increase in maintenance to 40%. What do you think?
I recently posted the formula to figure this out so I dug it back to plug in the numbers from this thread:
viewtopic.php?t=288303

Imagine my surprise when I noticed you were the OP as well!

Any ways:
(100*(1-x) - initial margin loan(%))/(100*(1-x)) = Maintenance margin required (%)
where x represents the smallest one day loss that will trigger a call. So:

(100*(1-x) - 20)/(100*(1-x)) = 40
Plug that in to Wolfram Alpha.
Solve for x and you get 66.6%. You'd need a 66.6% drop before a position with 20% margin borrowing (and 80% equity) becomes a position with 60% margin borrowing (and 40% of leftover equity). At which point you'll get a margin call.

May I ask how you're calculating this?
Thank you, 305pelusa! Your help on my other thread was invaluable. I swear I didn't get the math wrong again. I just quoted my own spreadsheet wrong above. See my edited OP for the calculator I made based on your help!
The world is largely random so don't sweat the small stuff.

Topic Author
hungrywave
Posts: 231
Joined: Tue Apr 09, 2019 7:48 pm

Re: How much can maintenance margin requirements increase during a crash?

Post by hungrywave » Mon Aug 26, 2019 2:19 am

saver007 wrote:
Fri Aug 23, 2019 9:34 pm
hungrywave wrote:
Fri Aug 23, 2019 8:36 pm
saver007 wrote:
Fri Aug 23, 2019 8:26 pm
It is hard to predict/answer. Brokerages can increase their house margin requirements upto 100% if they want without giving notice.

Unlikely to happen If your portfolio is built with large cap diversified unlevereged ETFs but more likely if your portfolio is built with risky small cap single stocks.
Thank you! Do you think planning around a one day loss of 20% (like 1987), one month loss of 50% (accelerated 2008), and an increase in maintenance margin requirement to 40% is a reasonable way to minimize the risk of a margin call? Based on my calculations and cash flow, these assumptions would suggest that 20% margin loan would be on the threshold of generating a margin call with a 1 day loss of 20% and an increase in maintenance to 40%. What do you think?

I would be using sub-indices such as VBR and VSS - so slightly higher volatility than total market funds.
I think this is reasonable approach as long as you are not investing in single stocks. Appart from selling, you can also buy put options to decrease margin requirements if there is a crises.
IB has a margin statement that you should periodically review
.
Also check out their portfolio margin program if your account equity is above 100,000 USD. Portfolio margin requirements can be lower but calculation is less transparent.
Thank you for the portfolio margin suggestion, saver007! I saw that when I opened my account but didn't really understand it. Some algorithm just assesses the expected volatility of your holdings and gives you a different minimum margin requirement? You need more than $100k to quality for portfolio margin?
The world is largely random so don't sweat the small stuff.

Topic Author
hungrywave
Posts: 231
Joined: Tue Apr 09, 2019 7:48 pm

Re: How much can maintenance margin requirements increase during a crash?

Post by hungrywave » Mon Aug 26, 2019 2:31 am

alex_686 wrote:
Fri Aug 23, 2019 8:52 pm
saver007 wrote:
Fri Aug 23, 2019 8:26 pm
It is hard to predict/answer. Brokerages can increase their house margin requirements upto 100% if they want without giving notice.

Unlikely to happen If your portfolio is built with large cap diversified unlevereged ETFs but more likely if your portfolio is built with risky small cap single stocks.
I was on the margin desk during the dot.com boom and bust, plus 9/11. This is technical true, but as Saver007 suggests unlikely. The first priority is to protect the firm, the second is not to blow up too many clients.

That being said, if you are going to go on margin, you need to be prepared to sell. I am not sure why you wouldn’t want to sell. Most of the reasons I heard we irrational and could be traced to cognitive defects covered in my behavior finance classes.
Thank you for the insider info, alex_686! Do you think a minimum margin requirement of 40% is a reasonable number to use to plan on avoiding margin calls? Or could it/has it gone to 50% or higher?

The reason I don't want to sell is because it seems there is a good chance that I would be selling at a relative market low. I would lock in my losses. Of course, if I did sell during a margin call, I would hope it would only deplete some of my equity and that I would be able to pile more cash in quickly. But avoiding a margin call through planning and cash flow is my main goal.
The world is largely random so don't sweat the small stuff.

HawkeyePierce
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Re: How much can maintenance margin requirements increase during a crash?

Post by HawkeyePierce » Mon Aug 26, 2019 4:21 am

If you're going for such a small amount of leverage I'd just buy WisdomTree's 90/60 fund (NTSX) rather than deal with the maintenance of a margin account. 90% S&P500, 60% Treasuries with all the leverage on the bond side.

alex_686
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Re: How much can maintenance margin requirements increase during a crash?

Post by alex_686 » Mon Aug 26, 2019 12:51 pm

hungrywave wrote:
Mon Aug 26, 2019 2:31 am
Thank you for the insider info, alex_686! Do you think a minimum margin requirement of 40% is a reasonable number to use to plan on avoiding margin calls? Or could it/has it gone to 50% or higher?

The reason I don't want to sell is because it seems there is a good chance that I would be selling at a relative market low. I would lock in my losses. Of course, if I did sell during a margin call, I would hope it would only deplete some of my equity and that I would be able to pile more cash in quickly. But avoiding a margin call through planning and cash flow is my main goal.
If you goal is not being forced to sell during a sharp downturn, I would say 10% to 20%. That being said, with such low use of leverage you are not going to make that much of a difference in your account. Try to figure out another way to gain access to Beta. Leverage via home mortgage or options are popular. Buying high Beta stocks would also work. (I am assuming you know what Beta is. If not, we can talk)

Next, from a rational viewpoint there is no such thing as “locking in a loss”. This is rooted in behavioral finance. See Sunk Cost Fallacy, Loss Aversion, and Anchoring - just to name 3. I know where you are coming from, these are common emotions, they will get you into trouble if you go onto margin. A loss is a loss. Selling and closing a position verse holding onto a losing strategy offers the same returns and the same level of risk.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.

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hungrywave
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Re: How much can maintenance margin requirements increase during a crash?

Post by hungrywave » Mon Aug 26, 2019 2:42 pm

alex_686 wrote:
Mon Aug 26, 2019 12:51 pm
hungrywave wrote:
Mon Aug 26, 2019 2:31 am
Thank you for the insider info, alex_686! Do you think a minimum margin requirement of 40% is a reasonable number to use to plan on avoiding margin calls? Or could it/has it gone to 50% or higher?

The reason I don't want to sell is because it seems there is a good chance that I would be selling at a relative market low. I would lock in my losses. Of course, if I did sell during a margin call, I would hope it would only deplete some of my equity and that I would be able to pile more cash in quickly. But avoiding a margin call through planning and cash flow is my main goal.
If you goal is not being forced to sell during a sharp downturn, I would say 10% to 20%. That being said, with such low use of leverage you are not going to make that much of a difference in your account. Try to figure out another way to gain access to Beta. Leverage via home mortgage or options are popular. Buying high Beta stocks would also work. (I am assuming you know what Beta is. If not, we can talk)

Next, from a rational viewpoint there is no such thing as “locking in a loss”. This is rooted in behavioral finance. See Sunk Cost Fallacy, Loss Aversion, and Anchoring - just to name 3. I know where you are coming from, these are common emotions, they will get you into trouble if you go onto margin. A loss is a loss. Selling and closing a position verse holding onto a losing strategy offers the same returns and the same level of risk.
While I agree that cognitive biases are often behind investor fear or selling and buying, in the case of margin call selling, I think there is more to it.

If market movements were random, then selling would be neutral. But, in the long term, they appear not to be. One, they generally move upward. Two, there is a tendency for mean reversion.

Thus, if you are forced to reduce stock exposure after a downturn, you are likely to be forced into selling low.
The world is largely random so don't sweat the small stuff.

alex_686
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Joined: Mon Feb 09, 2015 2:39 pm

Re: How much can maintenance margin requirements increase during a crash?

Post by alex_686 » Tue Aug 27, 2019 11:40 am

hungrywave wrote:
Mon Aug 26, 2019 2:42 pm
While I agree that cognitive biases are often behind investor fear or selling and buying, in the case of margin call selling, I think there is more to it.

If market movements were random, then selling would be neutral. But, in the long term, they appear not to be. One, they generally move upward. Two, there is a tendency for mean reversion.

Thus, if you are forced to reduce stock exposure after a downturn, you are likely to be forced into selling low.

So, the market is both mean reverting and time varying. It is a nuanced and complex debate. However, in regards to leveraging a portfolio over the long term, it is time varying, not mean reverting. This is true both for returns and volatility. It is particularly true during times of stress.

You can pick your model. Normal distributions or fat-tailed distributions. Monte Carlo simulatioins or Manderbot sets. Your returns and risk are going to be same. After a dip the market is as likely to dip again as it is to rise. I don’t know of any model that supports your view but know plenty that are against. Maybe you should go into more detail on what your exact plan is.

Most of models that hold water in my opinion require frequent rebalancing, the most common being monthly.

I am away from my primary computer, so maybe others can hop in. There was a famous French mathematician who figured out you could break the bank at Monte Carlo and win it all. All he needed was enough time and money. It never worked. Can anybody recall what this particular wager was called?
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.

Topic Author
hungrywave
Posts: 231
Joined: Tue Apr 09, 2019 7:48 pm

Re: How much can maintenance margin requirements increase during a crash?

Post by hungrywave » Tue Aug 27, 2019 5:35 pm

alex_686 wrote:
Tue Aug 27, 2019 11:40 am
hungrywave wrote:
Mon Aug 26, 2019 2:42 pm
While I agree that cognitive biases are often behind investor fear or selling and buying, in the case of margin call selling, I think there is more to it.

If market movements were random, then selling would be neutral. But, in the long term, they appear not to be. One, they generally move upward. Two, there is a tendency for mean reversion.

Thus, if you are forced to reduce stock exposure after a downturn, you are likely to be forced into selling low.

So, the market is both mean reverting and time varying. It is a nuanced and complex debate. However, in regards to leveraging a portfolio over the long term, it is time varying, not mean reverting. This is true both for returns and volatility. It is particularly true during times of stress.

You can pick your model. Normal distributions or fat-tailed distributions. Monte Carlo simulatioins or Manderbot sets. Your returns and risk are going to be same. After a dip the market is as likely to dip again as it is to rise. I don’t know of any model that supports your view but know plenty that are against. Maybe you should go into more detail on what your exact plan is.

Most of models that hold water in my opinion require frequent rebalancing, the most common being monthly.

I am away from my primary computer, so maybe others can hop in. There was a famous French mathematician who figured out you could break the bank at Monte Carlo and win it all. All he needed was enough time and money. It never worked. Can anybody recall what this particular wager was called?
Thank you for your perspective!

Market autocorrelation timeframes aside, I want to avoid what happened to MarketTimer in his infamous posting about 2008. Had he been able to maintain his stock exposure, he would be fine. But he margined out due to lack of cash.

I updated my OP with a margin glide path to my FI number. How does that seem?
The world is largely random so don't sweat the small stuff.

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