Margin, settlement, delivery, price limits
A futures position is a promise that runs until you close it. This lesson covers the plumbing that keeps those promises good: margin, the daily settlement of gains and losses, how a contract ends in delivery or cash settlement, and the price limits that can stop a market from moving further in one day.
Margin is a performance bond
The CFTC glossary says margin is not partial payment on a purchase; it is also called a performance bond. It is money you put up to show you can meet your obligations if prices move against you.
The CFTC glossary adds that exchanges set the initial and maintenance margin levels for each contract, but futures commission merchants (FCMs) may require more from their customers than the exchange minimum.
There are two levels to know (CME margin FAQ):
- Initial margin: what you must deposit when you open a position.
- Maintenance margin: the minimum you must keep in the account while the position is open. It is never higher than initial, and for a typical customer account it is lower (CME’s own FAQ example uses $4,000 initial and $3,200 maintenance).
The margin call
CME states the rule this way: if margin equity falls below maintenance, a call is issued to bring the account back up to initial margin. This is the part beginners get wrong: you restore the account to initial, not just to maintenance.
Worked example (made-up margin numbers, not real CME requirements). Say one MES contract (worth $5 per point, per CME’s spec page) requires:
- Initial margin: $2,000
- Maintenance margin: $1,600
You deposit $2,000 and buy one MES.
| Day | Move against you | Account equity | Call? |
|---|---|---|---|
| 1 | 40 points x $5 = $200 | $1,800 | No, still above $1,600 |
| 2 | 50 more points x $5 = $250 | $1,550 | Yes, below $1,600 |
The call is for $2,000 minus $1,550 = $450, bringing the account back to the initial $2,000.
How big a move does it take to trigger a call from a fresh deposit? The cushion is initial minus maintenance: $2,000 minus $1,600 = $400. At $5 per point, that is $400 / $5 = 80 points. Equity must fall below maintenance, so the loss must go past 80 points.
If you do not meet a call in time, the risk disclosure every customer receives (17 CFR 1.55(b)(1)) warns that your position may be liquidated at a loss and you are liable for any deficit. Losses can exceed what you deposited.
Marking to market and the settlement price
Futures accounts do not wait until you close a trade to count profit and loss. Each day, a settlement price is set for every contract month. The CFTC glossary describes it as the daily price at which the clearing organization clears all trades and settles all accounts, and it is used to figure margin calls and delivery invoice prices.
Mark-to-market is the daily process of calculating each position’s gain or loss from the change in price at the end of each session and adding it to, or subtracting it from, the account. CME’s FAQ shows the idea with an S&P contract: a 10 point drop at $50 per point takes $500 out of the account that day; a 6 point rise adds $300.
Between clearing members and the clearinghouse, those daily or intraday payments for adverse moves are called variation margin (CFTC glossary).
How a contract ends: offset, delivery or cash
The CFTC glossary says a futures contract may be satisfied by delivery or offset. Offset means making an equal and opposite trade in the same contract month before it expires, which closes the position.
If you stay in to the end, the contract settles one of two ways:
- Physical delivery: the actual commodity, or a document such as a warehouse receipt, changes hands.
- Cash settlement (also called financial settlement): the short pays the long a cash amount based on the value of the underlying or the level of an index. No goods move. Stock index futures such as MES settle this way.
For physically delivered contracts, a few terms matter:
- Delivery notice: the written notice from the seller (the short) of the intention to deliver, given through the clearing organization.
- First notice day: the first day the clearing organization can receive delivery notices. It varies by commodity and exchange. A long who does not want to take delivery needs to understand where first notice day falls.
Daily price limits
A daily price limit is the most a price may rise or fall from the previous day’s settlement price in one session, as set by exchange rules (CFTC glossary). When a market reaches its limit, it is said to be locked limit, or to have made a limit move.
Why it matters to customers: 17 CFR 1.55(b)(9) warns that you may find it difficult or impossible to liquidate a position, for example when the market reaches a limit move.
Limits are not always fixed. CME’s FAQ for U.S. equity index futures (other than the S&P 500 family; dated 22 Sep 2020) describes:
- A reference price taken from the prior day’s volume-weighted average price between 2:59:30 and 3:00 p.m. CT, rather than the settlement price.
- From 8:30 a.m. to 2:25 p.m. CT, downside limits at 7, 13 and 20 percent below that reference price, with limits expanding to the next level after a short monitoring period or halt.
- Outside U.S. hours (5:00 p.m. to 8:30 a.m. CT), a hard 7 percent limit up and down.
These coordinate with stock market circuit breakers, which the CFTC glossary describes as trading halts or price limits that give a cooling-off period during large intraday declines. Exchanges change these rules, so treat the numbers as an example and check the current CME page.
Key ideas
- Futures margin is a performance bond, not a down payment. Exchanges set minimums; FCMs may require more.
- Below maintenance, you get a call to restore the account to initial.
- Accounts are marked to market daily at the settlement price.
- Contracts end by offset, physical delivery or cash settlement. The short issues the delivery notice.
- A daily price limit caps the move from the reference price; in a limit move you may not be able to get out.