This is not investment advice. The information provided is for educational and informational purposes only and does not constitute a recommendation to buy or sell any financial product.
Variation margin is the daily settlement of profit and loss on a leveraged position. The mechanism is the broker's way of keeping the trader's equity in line with the market, and it is the source of most margin calls: when the trader's equity falls below the maintenance margin, the broker issues a margin call, and the trader must add funds or close the position.
The variation margin is the difference between the position's value at the previous close and the position's value at the current close. The difference is added to or subtracted from the trader's account, and the equity is updated accordingly. The mechanism applies to leveraged products (futures, CFDs, single-stock futures, options on futures), and it does not apply to unleveraged cash positions.
How variation margin works in practice
A trader takes a 5× leveraged long position on a stock at €100. The position is 20% trader's equity, 80% borrowed. The position's notional is €20,000, and the trader's equity is €4,000. At the end of the day, the stock closes at €101. The position is now worth €20,200, and the trader's equity is €4,200. The variation margin is +€200, credited to the account.
If the stock had closed at €99, the position is worth €19,800, and the trader's equity is €3,800. The variation margin is -€200, debited from the account. The equity has dropped by 5% (from €4,000 to €3,800), and the position is now closer to the maintenance margin.
The maintenance margin and the margin call
The maintenance margin is the minimum equity the trader must hold in a leveraged position for the position to remain open. The figure is set by the broker (and sometimes by the regulator), and it is a percentage of the position's notional. A common maintenance margin for a single-stock future is 25% of the notional.
When the variation margin reduces the trader's equity to the maintenance margin level, the broker issues a margin call. The trader has a window (usually 1-3 days) to add funds to bring the equity back above the maintenance margin, or to close the position. If the trader does neither, the broker closes the position at the next available price, and the loss is locked in.
How leverage affects the variation margin
The higher the leverage, the larger the variation margin per unit of price move. A 2× leveraged position on a stock that moves 5% produces a 10% variation margin (positive or negative). A 5× leveraged position produces a 25% variation margin. A 10× leveraged position produces a 50% variation margin. The variation margin is the mechanism that enforces the leverage's risk profile.
A trader using high leverage takes large variation margins on small price moves. The margins can be positive on winning trades and negative on losing trades. The equity moves in line with the variation margin, and the account can be wiped by a sequence of normal-sized losing trades.
How to manage variation margin risk
The first rule is to size the position to the risk budget. A small position produces a small variation margin per price move, and a small variation margin is a recoverable event. A large position produces a large variation margin that can trigger a margin call on a normal trading day.
The second is to monitor the position. The trader holding a leveraged position should check the account equity at least daily, and be ready to add funds or close the position if the equity is approaching the maintenance margin. The trader who does not monitor is exposed to a margin call that can fire before the trader can react.
The third is to avoid holding through known events. The variation margin is calculated at the close, but the gap at the next open is not reflected in it. A 5% gap down on a 5× leveraged position produces a 25% loss on equity at the next open, which can be larger than the maintenance margin. Holding over a known event is taking the gap risk knowingly.
The difference between variation margin and initial margin
The initial margin is the amount the trader must deposit to open the position. The variation margin is the daily settlement of profit and loss. The two are related but distinct: the initial margin is the entry ticket, and the variation margin is the running tab.
A trader who opens a 5× leveraged position with a 20% initial margin has the position marked to market daily. The variation margin is credited or debited based on the price move. The trader's equity in the position changes daily, and the equity is the basis for the maintenance margin check.
Related resources
Where to start
If you are working out how variation margin affects your trading, the most useful first step is to check the maintenance margin requirement at your broker, calculate the price move that would reduce your equity to the maintenance level, and size the position so that the price move is well outside the normal daily range. Our broker comparison lists the maintenance margin and the financing rate at each broker, which together tell you what the variation margin looks like before you take the position.