Clearinghouses and Margins

All futures and options on futures exchanges have clearinghouses that play a central role in these markets. Most notably, a futures clearinghouse facilitates trade among strangers by eliminating counterparty risk and guaranteeing the integrity of the contracts. In the United States, historically, each futures exchange has had its own clearinghouse--either formed as a separate entity or as a part of the exchange. Recently, a number of U.S. futures exchanges have begun exploring modes of common clearing; in other countries, such as the United Kingdom, and for U.S. securities options, a single clearinghouse serves several exchanges.

Only clearinghouse members can submit trades to the clearinghouse, and while every member of a clearinghouse must also be a member of the related exchange, not all exchange members are members of the clearinghouse. Clearinghouse membership involves financial requirements and responsibilities over and above those of exchange membership, including the maintenance of a guaranty deposit at the clearinghouse. This deposit serves as a reserve fund that can be used, if necessary, to meet the financial obligations of a defaulting clearing member.

It is the clearinghouse's responsibility to collect original margin from its members for the futures and options on futures contracts traded on the exchange. The clearinghouse's original margin, which is the minimum amount clearing members normally collect from their customers, reflects historical price volatility and generally is set at a level sufficient to protect the clearinghouse against one day's maximum (or historically very large) price movement in the particular futures or options on futures contract.

As part of the daily marking to market of futures and options, clearing members each day pay to or receive from the clearinghouse funds known as variation margin. In volatile markets variation margin may be collected intraday, with clearing members sometimes required to deposit funds within one hour of the margin call.

In contrast to clearinghouse margins, minimum customer margins in Futures and Options on Futures Markets are set by the exchanges on which the contracts trade. For most contracts, there is a difference between the amount of margin exchanges require to be deposited when a trade is initiated (initial margin) and the minimum amount of margin the customer must maintain in his or her account at all times for each open position (maintenance margin). For a few contracts and for many commercial accounts, the initial and maintenance margin levels may be the same.

The process of marking futures positions to market each day ensures that accounts are kept current. If there is profit, this can be paid to the customer. If there is a loss, the customer pays the full amount. If the loss is greater than the margin funds on deposit, the customer is required to pay the difference. The Margining Example provides an example of how customer margins work in practice.