What are margins and how can margin shortfall occur?

SEBI requires brokers to collect margins from clients before executing orders to cover potential losses. If clients fail to maintain adequate margins, a margin shortfall occurs. The margin shortfall is the difference between the required margin by SEBI and the available margin in the form of funds or collateral. Several factors can affect the margin amount needed for a trade, including liquidity, volatility, time to expiry for futures and options contracts, and other positions in the portfolio.

The margin required to enter into a trade can be checked on the order window:

Even after the execution of the order, the margin required for the open positions can still change. The breakup of the funds balances and margin utilised can be tracked on the Kite funds page.

Common instances of margin shortfall

The margins for all trades are required to be collected upfront for both F&O and equity trades. To learn more about upfront margin, visit tradingqna.com/t/changes-in-margin-requirements-from-1st-sep-2020/88915 The following are a few typical scenarios that may cause a margin shortfall and subsequent penalties:

Equity

1. Intraday trade is not squared-off

If an intraday trade cannot be squared off, it can result in a buy or sell delivery obligation. For sell obligations where there are no holdings, an auction settlement and associated penalties may occur. To learn more, see What is short delivery and what are its consequences?

If there is a buy delivery obligation, and there is insufficient balance to take delivery, the broker may close the position. This could lead to a margin shortfall if the funds available are insufficient to cover both the initial trade's margin requirements and the next day's square-off transaction.

F&O

1. Increase in margin requirement due to shuffling of positions

The margin requirements for F&O trading are based on SPAN and Exposure margins. The SPAN margin is calculated on the overall F&O positions held, and certain positions that reduce portfolio risk may lead to a lower margin requirement. However, if these positions are closed without closing other open trades, the margin requirement can increase.

For instance, buying one lot of NIFTY futures and one lot of NIFTY put option of 17000 strike price had a margin requirement of ₹44.64 thousand. But if the put option is squared off before exiting the futures trade, the margin requirement can increase to ₹1.08 lakhs, resulting in a margin shortfall if there aren’t enough funds in the Zerodha account.

2. Incremental physical delivery margins not maintained

In the past, F&O positions that were held until expiration were settled in cash based on the underlying stock price. But as of October 2019, the settlement process has been updated to involve giving or taking delivery of the actual shares. If one purchases option contracts, there is no need to maintain SPAN and exposure margin in their account since the margin requirement is limited to the value of the option, as the risk is also limited to that amount.

However, in-the-money (ITM) options are now settled by delivery of the underlying shares due to new physical delivery rules. The Exchange levies physical delivery margins from four days prior to expiration for ITM options as a percentage of the applicable margins (VAR + ELM + Adhoc) of the underlying stock in a particular manner:

Day (Beginning of the day)	Margins applicable
E-4 Day (Friday BOD)	10% of VaR + ELM + Adhoc margins
E-3 Day (Monday BOD)	25% of VaR + ELM + Adhoc margins
E-2 Day (Tuesday BOD)	45% of VaR + ELM + Adhoc margins
E-1 Day (Wednesday BOD)	70% VaR + ELM + Adhoc margins

To learn more about the physical settlement, visit zerodha.com/varsity/chapter/quick-note-on-physical-settlement-2

Both Equity and F&O

1. End of Day (EOD) margins are not maintained

The exchanges release margin files several times a day, with the final file published at 5:30 PM reflecting any movement in the stock during market close hours. The End of Day (EOD) file is updated accordingly with the latest margins. The displayed margin requirement on Kite is based on the most recent exchange file available, meaning it can change after market hours based on the EOD file.

To avoid a margin shortfall, keeping sufficient funds in the Zerodha account above the margin requirement is recommended, with a buffer of 5% being sufficient on most days if there aren't significant price changes.

2. Sell holdings and buy them back on the same day but meanwhile use the funds for another intraday or F&O trade

When selling holdings, 80% of the selling credit can be used for new trades. If this credit is used for intraday trade and the holdings are bought back, a margin shortfall can occur if there isn't enough margin separately available for the intraday or F&O trades.

Example Scenario

1. A credit of ₹8,000 will be available for new trades by selling shares worth ₹10,000 from the holdings.
2. If a trade requiring a margin of ₹5,000 was taken and squared off, and the holdings were repurchased with the credit, the peak margin requirement for the day would be ₹7,000 [i.e. ₹5,000 + 20% of ₹10,000], but only shares worth ₹2,000/- would be eligible for margin.
3. A penalty will be levied if there aren’t sufficient funds in the Zerodha account.

To learn more about peak margin, visit zerodha.com/z-connect/zerodha/bulletin-latest-at-zerodha/peak-margin-intraday-leverages-2nd-order-effects-dec-1st-2020.

Penalty structure

Margin penalty is charged on the shortfall amount (difference between margin available and margin required) at the following rates:

Shortfall amount	Penalty Percentage
(< Rs 1 lakh) And (< 10% of applicable margin)	0.5%
(= Rs 1 lakh) Or (= 10% of applicable margin)	1.0%

If the shortfall continues for more than 3 consecutive days, a penalty of 5% is applied on the amount for each subsequent instance. Similarly, if there are more than 5 instances of margin shortfall in a month, the penalty charged is 5% of the shortfall amount beyond the 5th day.

GST is charged at 18% on the entire penalty amount. To learn more, visit www1.nseindia.com/products/content/derivatives/equities/penalties.htm.