How Does Options Margin Work? | Financial Derivatives | Options Trading Lessons

What is Option Margin?

Option margin is the cash or securities an investor must deposit in their account as collateral before selling options. Only sellers of options have to post margin, buyers of options pay the entire premium upfront and that is the most that they can lose.

Margin requirements are established by the Federal Reserve Board in Regulation T and varies based on the option.

Option margin requirements are very complex and differ quite a bit from stocks or futures margin requirements. In the case of stocks and futures, margin is used as leverage to increase buying power, whereas option margin is used as collateral to secure a position.

Minimum margin requirements for various types of underlying securities are established by FINRA and the options exchanges. Brokers may have very different margin requirements since they can add to the minimum requirements set by regulators. Some option strategies, such as covered calls and covered puts, have no margin requirement since the underlying stock is used as collateral.

Traders must request options trading authorization when opening a new account. Often times, brokers will classify options trading clearance levels depending on the type of strategies employed. Buying options is typically a Level I clearance since it doesn't require margin, but selling naked options may require Level II clearances and a margin account. Level III and IV accounts often have lower margin requirements.

Option margin requirements can have a significant impact on the profitability of a trade since it ties up capital. Complex strategies, such as strangles and straddles, may involve computing multiple margin requirements. Traders should determine the margin requirements for a trade before entering into it and make sure that they can meet those requirements if the market turns against them.

How do you calculate option margin requirements?
The easiest way to calculate option margin requirements is using the Chicago Board of Options Exchange (CBOE) Margin Calculator that provides exact margin requirements for specific trades. Traders can also see the minimum requirements in the CBOE's Margin Manual. Brokerage accounts may have similar tools available to provide an idea of the cost before entering into a trade.

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[options]

Hey great video, I was wondering what are your thoughts on selling option premiums as a core investment strategy? Thanks very much!

[MrNocakeforu]

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