When investors open a margin account with a brokerage, they gain the ability to buy securities using a combination of their own capital and borrowed funds from the firm. This practice of trading on margin allows greater leverage but also introduces risks.
To limit potential losses, regulatory bodies and brokerages have instituted maintenance margin requirements. However, each brokerage can set their own custom “house” maintenance requirements at stricter levels than the legal minimums.
This guide examines what house maintenance requirements are, how they work, and why understanding them is crucial for avoiding costly margin calls.
What Are House Maintenance Requirements?
House maintenance requirements refer to the minimum equity percentage that a brokerage firm requires you to maintain in your margin account at all times after buying securities on margin.
For example, if a brokerage has a 40% house maintenance requirement and you purchase $10,000 worth of stock on margin, you would need to maintain at least 40% of $10,000, or $4,000, in equity at all times.
Key facts about house maintenance requirements:
- Set by individual brokerage firms rather than regulators
- Must meet or exceed regulatory minimums like 25%
- Equity as a percentage of total market value of margin securities
- Falling below the level triggers a margin call
- Varies between firms and customer types
House requirements provide an extra layer of loss protection for brokerages by forcing margin traders to keep adequate equity relative to their borrowings. Firms can adjust these requirements based on risk policies.
How Do House Maintenance Requirements Work?
House maintenance requirements work in conjunction with regulatory initial and maintenance margin rules. Here is the general process when trading stocks on margin:
- You deposit your own cash to fund the margin account
- You take out a loan from the brokerage to buy more shares than your cash would permit
- Your account has a debit balance for the amount owed on margin loan
- Initial margin regulation requires at least 50% equity at time of purchase
- House maintenance requirement dictates minimum equity you must hold at all times after purchase
- If equity falls below the house requirement, you receive a margin call
- You must deposit more cash or securities to meet the call or positions may be liquidated
The initial purchase establishes your maximum leverage based on the 50% federal initial margin rule. The house maintenance requirement aims to prevent overleveraging as the value of your securities fluctuates. You must proactively monitor your equity.
SEC Minimum Maintenance Requirement vs House Requirement
The U.S. Securities and Exchange Commission (SEC) dictates baseline margin rules that brokerages must follow at a minimum. However, firms often set stricter house requirements:
SEC Minimum Maintenance Margin
- Set by Regulation T
- Minimum of 25% of current market value
- Allows maximum 4:1 leverage after initial purchase
House Maintenance Requirement
- Set by individual brokerage firms
- Often 30% to 50% of market value
- Allows less leverage depending on equity percentage
- Provides extra buffer for brokerages against risk
For example, if the SEC mandates 25% but your broker requires 40% equity, you must adhere to the higher 40% house requirement at all times. Failing to maintain the brokerage’s stricter standard will trigger a margin call.
How Brokerages Determine House Requirements
Brokerage firms weigh several factors when establishing their house maintenance requirements:
Customer Risk Profile
New or small accounts often face higher requirements. More experienced traders with larger balances may receive lower requirements.
Active trading and frequent borrowing may lead to higher requirements compared to buy-and-hold strategies.
More volatile or speculative securities may have higher requirements than stable blue chip stocks.
Requirements tend to increase during periods of high volatility or uncertainty.
Firm Risk Tolerance
More conservative brokerages lean towards higher house requirements across the board.
Firms evaluate if higher requirements are prudent based on changing regulations.
So house requirements offer flexibility for brokers to manage risk on a customer-by-customer basis depending on factors like account size, trading patterns, market environments, and more.
Why Maintenance Requirements Are Important
Maintenance requirements, whether regulatory or house levels, serve a valuable purpose in protecting brokers and customers. Here are some key benefits:
Prevents accounts from becoming dangerously undercapitalized as market values shift.
Reduce Margin Call Risks
Keeps equity at prudent buffer above margin limits, allowing time to add funds before positions are liquidated.
Promote Financial Stability
Lessens systemic risks that could arise from widespread defaults on margin loans.
Account for Volatility
Adjustments can be made to requirements in periods of high market instability.
Encourage Risk Management
Forces traders to proactively monitor equity and maintain adequate cushion.
Standardize Customer Treatment
Houses rules provide consistency in how minimums are applied across account types.
Meet Regulatory Standards
Helps brokerages satisfy legal requirements issued by bodies like the SEC.
Clearly understanding your brokerage’s house maintenance margin policies and ensuring you have an adequate equity buffer is a key risk management practice.
What Happens If You Fall Below the House Requirement?
Falling below the brokerage’s house maintenance margin requirement at any time will result in a margin call. This requires you to promptly add more cash or marginable securities to the account to restore the equity percentage to the minimum level.
Specifically, here is the typical process when equity falls too low:
- Brokerage monitors margin accounts and equity percentages daily
- They identify accounts below the house maintenance requirement
- You receive a margin call notice from the brokerage
- The call specifies the equity amount needed to satisfy the requirement
- You have 2-5 days to deposit additional funds or securities
- If the call is not met, the brokerage has the right to liquidate positions to restore equity
It’s crucial to take swift action when you receive a margin call to avoid forced liquidations. Have a plan in place for raising cash quickly if needed.
How to Avoid Margin Calls
The best way to steer clear of margin calls is to proactively manage your leverage and equity buffer:
- Don’t overleverage initially by borrowing the maximum allowed
- Maintain excess equity beyond the minimum requirement as a cushion
- Monitor your equity daily for early warning of potential problems
- Have cash ready to deposit on short notice if equity gets too low
- Consider using stop orders to limit downside risk on volatile securities
- Diversify your holdings to reduce concentration risk from any one stock
Keeping a close eye on your equity gives you time to make adjustments before a margin call becomes imminent. Don’t wait until you receive a call to take corrective action.
Examples of House Maintenance Requirements
Let’s walk through some examples to demonstrate how house maintenance requirements work:
- Brokerage has a 40% house maintenance requirement
- You deposit $10K and borrow $10K to buy $20K of stock
- The stock value drops to $18K
- Your equity is still $10K, which exceeds 40% of $18K
In this case, no action would be required since equity stays above 40%.
- Brokerage has a 40% house maintenance requirement
- You deposit $10K and borrow $10K to buy $20K of stock
- The stock value drops to $14K
- Your equity is still $10K, which is below 40% of $14K
- You receive a margin call to deposit $4K to meet 40% requirement
Here the margin call was triggered because equity fell below 40%.
- Brokerage has a 30% house maintenance requirement
- You deposit $10K and borrow $20K to buy $30K of stock
- The stock value rises to $45K
- Your equity exceeds 30% of $45K due to the price appreciation
This example shows how rising values can create a buffer against maintenance requirements.
Key Takeaways on House Maintenance Requirements
- Brokerages set their own house maintenance requirements for margin accounts
- Requirements are generally stricter than regulatory minimums
- Falling below the house requirement results in a margin call
- Requirements allow flexibility to address risks posed by different customers and securities
- Proactively maintaining excess equity can help avoid margin calls
- Careful use of leverage and stop orders also reduces risk
While margin trading allows greater leverage in your portfolio, it comes with risks that must be managed prudently. Falling below your brokerage’s house maintenance requirement can trigger forced liquidations.
Carefully evaluate your own risk tolerance and investment knowledge before trading on margin. Seek a firm with lower initial and maintenance requirements for more flexibility. Monitor equity daily and keep an adequate buffer in your account.
Used strategically, margin accounts can provide leverage to enhance returns during bull markets. But overleveraging also amplifies losses when investments turn sour. Understanding house maintenance requirements is crucial to avoiding costly mistakes when trading on margin.
Frequently Asked Questions
Q: Can brokerages change their house maintenance requirements frequently?
Yes, brokerages reserve the right to adjust their house maintenance requirements at any time based on market conditions, risk management needs, and other factors. It’s best to check your brokerage’s current requirements frequently and adjust your borrowing accordingly.
Q: How is the maintenance requirement calculated on a short sale position?
For short sales, the equity calculation is based on the initial value of the cash proceeds received when the position was opened, not the current market value of shares borrowed. This provides incentive to close out short positions as stock prices decline.
Q: What happens if you cannot meet a margin call by the deadline?
If you do not deposit the required equity within the few days allotted, the brokerage will start forcing the liquidation of positions in the account to restore the maintenance requirement. The firm does not need your authorization or consent to do this.
Q: Can brokerages liquidate securities not purchased on margin?
Yes, when liquidating to meet a margin call, the brokerage can sell any holdings in the margin account, not just the specific stocks purchased using margin. So securities funded fully with your own cash can also be sold off.
Q: Do day trading margin rules apply to maintenance requirements?
Yes, if your margin account is designated for pattern day trading, the $25,000 minimum equity requirement still applies, in addition to any maintenance requirements. So day traders need to ensure they remain above both the $25,000 and any house maintenance minimums.
Q: Can a brokerage liquidate your entire account to cover a margin call?
Potentially yes, if the market value of your securities has declined so much that a liquidation of your entire holdings is required to restore the needed maintenance equity percentage, the firm can do so. Any remaining debt would still need to be repaid separately.
Q: Can maintenance requirement violations result in account restrictions?
Yes, many brokerages reserve the right to impose trading restrictions or suspensions if you violate the house maintenance requirements or fail to meet margin calls. Examples include limiting future margin borrowing or locking the account from withdrawals.
In another related article, What is a Margin Call? – Key Types of Margin Calls
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