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What is 'Peak Margin' mechanism and will it impact markets?

What is 'Peak Margin' mechanism and will it impact markets?

Peak margin system was introduced in phases starting December 2020; benchmark Sensex has gained a little over 20 per cent in 2021

Here’s a primer on what exactly is the ‘Peak Margin’ system Here’s a primer on what exactly is the ‘Peak Margin’ system

There has been a lot of noise over the new ‘Peak Margin’ mechanism and the possible impact it could have on the stock markets. A section of market participants believe that the new mechanism would make trading – day trading to be precise - an expensive affair as traders will have to bring in more money to comply with the new margin requirements.  

Here’s a primer on what exactly is the ‘Peak Margin’ system and how does it impact markets and traders.

What is margin mechanism?

Margin refers to the quantum of money that a trader has to have in his account before executing a trade. Earlier, traders and clients could do leveraged trades as well since broking firms used to provide a part of the margin required at a certain rate of interest. It was a win-win for both as broking firms got interest income while traders could do higher volume of trades with less of own money. The earlier mechanism involved calculating the margin requirement at the end of the trading session and the in-between volatility or stock price fluctuations were not captured.  

What is the peak margin system?

Under the peak margin mechanism, the margin requirements are computed randomly four times during the trading session instead of the earlier practice of calculating only at the end of the session. Thereafter, the highest margin requirement that emerges from the four scenarios becomes the peak margin for the day. The peak margin is then tallied against the available margin and shortfalls, if any, would attract a penalty. Simply put, the new margining system means that traders would have to have more funds while trading in the stock market.

What changes with the peak margin system?

While there is indeed a lot of noise being made about the peak margin system, the fact is that it is not new and has been implemented in a phased manner starting from December last year. The Securities and Exchange Board of India (SEBI) introduced the first phase from December 1, 2020, when the peak margin threshold was fixed at 25 per cent. From March 1, 2021, the threshold was increased to 50 per cent and the third phase kicked off on June 1 when it was further hiked to 75 per cent. The fourth and final phase has come into effect from today (September 1) wherein the margin requirement has been hiked to 100 per cent.  

Will 100 per cent peak margin requirement impact markets?

If one goes by empirical evidence, the answer has to be no though a section of market participants has been quite vocal in saying that the new mechanism would impact traders. As explained earlier, the peak margin system has been implemented in phases and the markets have only been going up and touching new record highs. So, if one looks at the stock prices, then they have mostly gained ground even as the peak margin system was being implemented in phases. Interestingly, concerns were always raised before the next leg of higher margin requirement came into effect.
Incidentally, Association of National Exchanges Members of India (ANMI), which is the umbrella body of broking firms, recently wrote to the capital market regulator highlighting a few compliance issues being faced by broking firms under the peak margin system.