## The Margin for Two-Leg Options Has Been Reduced

Options Portfolio Margin now supports:

- Covered Call & Put,
- Vertical Spreads,
- Calendar Spreads,
- Straddle & Strangle,
- Protective Call & Put.

If you are an experienced options player (trader), you will probably prefer to trade options combination strategy. By using multiple combinations of options strategies, investors can flexibly control the risk and return. The common issue faced by investors is fulfilling margin requirements.

As we know, options risk can be reduced through options combination strategies, because it can reduce the margin requirement. And ultimately lower margin is equivalent to higher yield. However, in practice, not every broker supports margin reduction/discount.

As of October 2022, Tiger Trade/Brokers support margin discount on covered call, covered put, vertical spread, calendar spread, straddle&strangle, protective call/put, which are all two-leg combinations.

Let's refer to the following different types of options combinations on how margin discounts are applied.

#### 1. Covered call

A covered call is a basic options strategy that involves selling a call option for every 100 shares of the underlying stock that you own.

For example, John buys 100 shares of APPL at a price of 150 USD, and sells a call with a strike price of 160 USD with one month expiration validity. He will receive a premium from selling a call. If the Apple Inc. share price does not reach or exceed 160 USD by expiration date, John will earn the premium; if the stock price exceeds 160 USD, the option will be exercised by the buyer and John is obligated to sell 100 shares of Apple to the other party at 160 USD.

How much deposit does he need in this case?

If there is no discount, his stock and options margin will be calculated separately. The stock portion is based on the current APPL stock long initial margin ratio of 30%, the minimum margin = 150USD * 100 shares * 30% = 4500USD. While the option margin is calculated according to the naked short call and the margin calculation method is complicated, mainly depends on the short margin rate of the corresponding stock. More details can be found in the lower right corner of the order entry page. The risk is when the stock price rises, John may be required to top up funds/collateral to maintain sufficient margin requirement . If he does not fulfill margin call on-time, forced liquidation might take place.

Now with the discount/combo provided by Tiger Trade, the margin requirement for short option portion in a covered call is no longer required, you are only required to maintain the margin requirement for the stock portion. In John's case, the margin requirement is 4500USD, and no matter how high the stock price rises, no top up of margin requirements for the sell-call will not be required.

Question: is it necessary to trade 100 shares? The answer is: Reduction of corresponding margin requirement is based on the number of shares that you own. Which means, if John only owns 10 shares of Apples and he sells 1 call option (100 shares in this case), the margin requirement will be for 90 shares (90%) of the sell option as naked sell, and the other 10 shares (10%) margin requirement is reduced by the position of the 10 Apple shares as collateral.

How to trade covered calls on Tiger Platform?

First, you need to have a trading account with Tiger Brokers, and it must be a margin account. Next step will be to deposit funds and enable options trading functions.

Now assuming you already own 100 shares, click on the options on the stock details page and choose a call option contract you want to trade. Usually, people will choose a contract that expires in about 1 month, because time value typically decays faster, which is beneficial to the seller. The specific strike price needs to be evaluated by yourself based on your target ask price and the premium. If you are bearish on the stock trend, you can choose a contract with a lower strike price, which will allow you to earn a higher premium. If you are unsure, you can choose a selling price that you are satisfied with, so that even if you are called-over, you can still able to get a satisfactory rate of return as per your desire.

Can I sell stocks in the middle of a covered call?

Yes, you can sell the stock before the call expires. However, you need to ensure that the margin requirement of the sell call is sufficient. Once the stock is sold, the naked sell call will not enjoy the margin discount. If the risk (the

price of the stock rise) increases rapidly, and you may receive a margin call.

#### 2. Covered put

A covered put works essentially the same way as a covered call, except that you're selling a put against a short position of stocks.

Under what circumstances should trader apply this combination ?

For example, assuming that Apple current stock price is 150USD, John believes that it will fall, so he short 100 shares of APPL at the price of 150USD. Willing to close the position (meaning buying back the shares) at the price of 120USD, he sells a put with the strike price of 120USD and expiration date in a month. If the Apple share price doesn't drop below 120USD in a month, John will earn the premium; if it does, John will close the short position at the price of 120USD. His profits will include 30USD per share plus the premium of selling put, without considering the transaction fee.

How is the margin calculated?

Similar to covered call but slightly different. Before the discount , both stocks and options are required to fulfill the full margin requirement; after the discount , the margin requirement will rely on the larger margin requirement of the shorted stock margin or shorted put margin. In John's case, since the initial margin for shorting Apple stock is 35%, the margin required to sell 100 shares of Apple stock at 150USD is 150USD * 100 shares * 35% = 5250USD, The margin for sell put is approximately 120USD * 100 shares * 30% as the exact amount is complecated to calculate. It is known that it is lower than 5250USD without calculation, so the margin requirement is 5250USD.

There is no difference in the transaction process between covered put and covered call.

#### 3. Vertical spread

Vertical spreads are also commonly used combinations by buying and selling contracts with the same expiration date, different strike prices, and the same direction.

For example, John sold an Apple call with a strike price of 150USD 41.50 each, and bought an Apple call with a strike price of 170USD and with the same expiration date. In this way, even if the stock price rises more than expected, the BUY call option has locked in the maximum loss for the combination.

How to calculate the required margin?

First, use the higher strike price minus the lower strike price and multiply it by the corresponding number of shares, that is, (170-150) * 100 = 2000USD

Then calculate the margin required for selling the call option. Due to complexity of calculation, we will not show detailed calculations here. However, in this case we can easily determine that the margin required is higher than 2000USD.

Referring to the above calculation, the minimum amount of 2000USD is the margin required for this vertical call spread.

Imagine that if John trades this combination with a premium gain of 500USD, then based on the reduced margin calculation, on the assumption that both options expire and void, his potential yield rate will be 500/2000 = 25%, excluding handling fee. This is the value of margin reduction for vertical spread options portfolio traders.

Vertical put margin calculation uses the same concept, so we will not repeat here. In short, we take the worst case scenario in which the maximum loss is the amount of margin requirement.

#### 4. Calendar spread

Call calendar spread Sell a call at nearer expiration date and buy a call with a further expiration date. The strike price can either be the same or different, but the expiration date of the sell call must be earlier than the expiration date of the buy call. For example, sell a call with a strike price of 150USD, expire in two weeks, and buy a call with a strike price of 150USD or 160USD, expire in 4 weeks. The choice of the specific strike price and expiration date depends on your prediction of the stock price trend.

A buy call at further expiration date reduces the risk of the sell call at nearer expiration date, so the margin requirement is favorable. This is calculated by multiplying the strike price of the buy call - the strike price of the sell call by the corresponding amount. In the example above, if the call strike price of the buy and sell is the same, then the combined margin is 0 until the call at the nearer expiration date expires.

Put calendar spread Sell a put at nearer expiration date and buy a put at further expiration date, similar to the above combination, but call is replaced by put.

The margin is calculated by multiplying the sell put strike price at the nearer expiration date - buy put strike price at further expiration date by the corresponding amount. If you sell a Put with strike price of 130USD at nearer expiration date and buy a Put with strike 120USD put at further expiration date, then the margin is (130-120)* 100 = 1000USD

If there is no discount, the margin requirement for the sell put is 130 * 100 * corresponding to the short sell margin requirement, assuming the Short sell margin requirement is 35%, the margin is 4550USD.

#### 5. Straddle & Strangle

Both Straddle options & Strangle options are strategies to buy call and put options at the same time when one anticipate there will be high volatility in the market and uncertainty in the price movement, example is during earnings reporting season when trader used these strategies to bet on earning results. On the other hand, short straddle and strangle, both are bets on low volatility in which one anticipate the underlying product will trade in a narrow range between the break-even point. Under normal circumstances, no margin discount means that you need to fulfill 100% margin requirement for both the naked sell call and put. However, it is impossible to have both legs exercised at the same time, so the margin requirement will always be the leg which has the higher margin requirements. For example, if the sell call margin is 1000USD, sell put margin is 800USD, if you sell call and put at the same time, the margin requirement will be 1000USD, plus the premium amount you receive from selling the put.

#### 6. Protective call & put

This is also a common insurance strategy. Hold a long position in the stock and buy a put, or hold a short position in the stock short and buy a call, because the maximum loss of the stock position is capped, the margin requirement is also reduced.

Example: John holds 100 shares of Apple, the current stock price is 150USD, he buys a put with strike price of 140 . Before buying put, the minimum margin he needs is 150 * 100 * 25% (long maintenance margin ratio) = 3750USD. After buying put option, the margin he needs is (10% * put strike price + put out-of-money amount) multiplied by the number of shares corresponding to the option, that is, (10% * 140 + (150-140))* 100 shares = 2400USD, thus save about one-third of the margin. However, if John buys a deep out of the money put, such as a put with strike price of 80 , the calculated margin is 7800USD, which is more than 3750USD of the stock portion. Therefore, the margin required will be the lower of the two values, which in this case will be 3750USD.

The same concept for Protective call. John shorted 100 shares of Apple , the current stock price is 150USD, and he bought a call with a strike price of 160USD . The short maintenance margin ratio is 30%, therefore the margin require is 4500USD for the stock portion (before buying the call). After buying the call, he enjoys a margin reduction. The calculation method is (10% * call strike price + call out-of-money amount) multiplied by the number of shares corresponding to the option, which is (10% * 160 + 160-150) * 100 = 2600USD.

The above is the margin discount of each option strategy combination on the Tiger Brokers Platform.

Register now and open a Tiger account, enjoy a better options trading experience. Demo trading on US stock options is available.

Trading process: Register - Open an account - Deposit funds, search for the stock you want to trade, enter the details page to access options trading, select the contract you want to trade and place an order.

Disclaimer: Investing carries risk. This is not financial advice. The above content should not be regarded as an offer, recommendation, or solicitation on acquiring or disposing of any financial products, any associated discussions, comments, or posts by author or other users should not be considered as such either. It is solely for general information purpose only, which does not consider your own investment objectives, financial situations or needs. TTM assumes no responsibility or warranty for the accuracy and completeness of the information, investors should do their own research and may seek professional advice before investing.

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