Margin, MTM and the auto square-off

Why is this important?

Lesson 2 told you buyers pay premium and sellers post margin. That sentence is true and nowhere near enough, because it describes the moment of entry and says nothing about the days afterwards — which is where sold positions actually go wrong.

Two things happen to a short position every single day it stays open. First, its unrealised loss is marked against your available balance the moment it happens. Second, and much less known, the margin requirement itself climbs as the trade moves against you, because the exchange re-simulates your worst case from today's price and today's volatility, not from the calm afternoon when you entered. Your free cash falls and the demand on it rises at the same time. Two doors closing on the same room.

When they meet, you have a margin shortfall: an exchange penalty per day, and a broker with the contractual right — printed in the account-opening form you scrolled past — to close your position at its convenience, not yours.

Real market example

Meera has ₹2,00,000 in her trading account and a reasonable view: NIFTY is at 25,000, the week looks quiet, and she sells one lot of the 24,800 PE at ₹60. Premium collected: ₹60 × 65 = ₹3,900. Her broker blocks ₹1,30,000 of SPAN plus exposure margin. Free balance: ₹73,900. She is comfortable.

Then the week refuses to be quiet.

Read the last two columns together, because that is the whole lesson. The loss column is bad but survivable — ₹25,350 against a ₹2,00,000 account. The margin column is what actually ends the trade: by Thursday she is short of the money the exchange demands, which triggers a penalty, and on Friday morning her broker squares off the position at ₹450 and books the ₹25,350 as real.

The following Tuesday, NIFTY closes the week at 24,900. The 24,800 PE expires worthless. Meera's original view was right. She was not in the trade to collect on it, because being right at expiry and being solvent on Thursday are two separate requirements, and only one of them is negotiable.

One India-specific detail worth being precise about: options here are premium-settled, so unlike a futures position, no cash is actually debited from Meera's bank each evening. The loss is "only" marked against her available margin. In practice this is a distinction without a difference — the free balance falls exactly the same way, and the square-off happens exactly the same Friday.

Contrast this with Rahul from Lesson 11, who bought a ₹7,800 call in the same week and watched it fall to ₹2,000. Nobody called him. Nothing was blocked. No penalty accrued, no position was closed for him, and his worst case was fixed at ₹7,800 from the second he pressed buy. That asymmetry — not the win rate — is the real difference between the two sides of the trade.

Key concepts

• Blocked, not spent. A buyer's ₹7,800 leaves. A seller's ₹1,30,000 is still their money — it simply cannot be used for anything else until the position closes. Which is why "I have ₹2 lakh, so I can sell one lot" is arithmetic, not planning.
• SPAN margin: the exchange's core requirement, computed by running your portfolio through a grid of price and volatility shocks and charging you the worst result. Exposure margin is an additional cushion sized off contract value. What your broker blocks is the two together.
• MTM (mark to market): your open position revalued at the current price. On futures it is settled in cash every evening; on options it is marked against your available margin continuously. Either way, the money stops being available before you have closed anything.
• Margin shortfall: blocked margin exceeding what the account can cover. It carries an exchange penalty of roughly 0.5% to 1% per day of the shortfall, with a heavier bite for repeat offences in the same month — small in rupees, but it is the exchange formally noting that you were short.
• Auto square-off: your broker's risk system closing the position for you. Two common triggers: an intraday MIS position reaching the daily cut-off (typically around 3:20 pm, before the 3:30 close), and a margin shortfall crossing the broker's threshold. Neither waits for your opinion.
• MIS vs NRML: MIS is intraday, cheaper on margin, and will be squared off before the close. NRML is carried, takes full margin, and exits on your schedule. Choosing MIS for a multi-day view is choosing to have the trade ended for you on day one.
• Peak margin: the requirement is checked at random snapshots through the day, so what matters is your worst moment, not your closing one. Being briefly over and back is still being over.
• Margin call: the broker asking for funds. In practice it is an SMS, an email and a countdown, not a negotiation, and plenty of accounts get squared off before anyone reads it.

Visual explanation

The same four days, seen as the two forces that squeeze a seller. Watch how the trade dies at the crossing point, three days before expiry settles anything.

A buyer's version of this table has one row and never changes: money at risk ₹7,800, money demanded ₹0, verdict: your decision, always.

That is worth sitting with before you sell your first option. Sellers win more often, as Lesson 2 showed. But sellers also hand a piece of the exit decision to a risk system, and that system optimises for the broker's safety, not your P&L.

How traders use it

• Never use more than half your capital as margin. If a lot needs ₹1.3 lakh, you want roughly ₹2.6 lakh in the account, not ₹1.4 lakh. The spare half is not idle money; it is what buys you the right to stay in a trade that is temporarily wrong.
• Size from the obligation, then check the margin. Margin is what lets you open the position. It has nothing to do with what you can afford to lose — that is Lesson 30's job, and it always produces the smaller number.
• Hedge to cut margin, not just to cut risk. Buying a further-out option against a sold one turns a ₹1.3 lakh naked short into a spread needing a fraction of that (Lesson 22). The same view, a printed worst case, and no squeeze mechanics.
• Know your own broker's numbers. The square-off time, the shortfall threshold that triggers it, and whether they call first. These vary between brokers and are published; find yours before you need it, not during.
• Add funds early or cut size early — never neither. Once the shortfall exists, your two options are money or a smaller position. Waiting is a third option that decides itself, at the broker's price.
• Watch the margin number, not just the P&L number. Meera's loss was survivable on every single day of that week. Her margin was not. Beginners watch the wrong column right up until the SMS arrives.

Common mistakes

• Sizing by margin available. "The broker allows five lots, so I'll sell five lots" is the most reliably account-ending sentence in Indian options. Margin allowed is a limit, never a recommendation.
• Treating collected premium as spendable. Meera's ₹3,900 was hers only if the position ended well. Money that can still be taken back is not income yet.
• Assuming margin stays where it started. It is recomputed from today's price and today's volatility. A position going against you gets more expensive to hold at exactly the moment you can least afford it.
• Using MIS to carry a multi-day view. The cheaper margin is a rental price for a position that expires at 3:20 pm. Rahul's view about next Tuesday cannot be expressed in an MIS order.
• Waiting for a phone call. The auto square-off is automatic. That is the entire point of the word.
• Believing a correct view protects you. Meera was right about expiry and it did not matter. Solvency comes first, chronologically and every other way.
• Ignoring small penalty entries on the ledger. A ₹300 margin penalty is not really a ₹300 problem. It is a receipt proving you were sized too large, and the next one usually arrives with a square-off attached.

Quiz

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