Account holders hedging or offsetting the risk of futures contracts with option contracts are encouraged to pay particular attention to a potential scenario whereby a change in the underlying price may subject the account to a forced liquidation even if the account remains in margin compliance. This scenario is driven by a fundamental difference in which gains and losses are recognized in futures contracts vs. options contracts coupled with IB's requirement that the commodity segment of one's account maintain a positive cash balance at all times.
Gains and losses in a futures contract, by design, are settled in cash and IB updates the account holder's cash balance through the TWS on a real-time basis for any changes in the futures contract price. An option contract is also marked-to-the-market on a real-time basis but this change in value represents an unrealized (i.e., non-cash) profit or loss with the actual cash proceeds not reflected in the account until such time the contract is either sold, exercised or expires.
To illustrate this scenario, assume, for example, at time 'X' a hypothetical portfolio consisting of a credit cash balance of $6,850, 2 short Sep ES futures contracts, 2 Long Sep ES $1,000 strike call options on the futures contract marked at $31.50 each, with the cash index at $1,006. Also assume that at time 'X+1' the cash index increases by 100 points or approximately 10%. A snapshot of the account equity and margin balances for each date is reflected in the table below.
|Portfolio||Time 'X'||Time 'X+1'||Change|
|2 Long Sep ES $1,000 Calls*||$3,150||$10,300||$7,150|
|2 Short Sep ES Futures*||-||-||-|
*Note: the contract multiplier for the ES future and option is 50.
As reflected in the table above, the projected effect of this market move would be to decrease the cash balance to a deficit level based upon the mark-to-market or variation on the futures contracts of $10,000 (100 * 50 * 2). While the effect of this upon equity would be largely offset by a $7,150 increase in the market value of the long calls, the unrealized gain on the options has no effect upon cash until such time they are either sold, exercised or expire. In this instance, IB would act to liquidate positions in an amount sufficient to eliminate the cash deficit while maintaining margin compliance and attempting to preserve the greatest level of account equity.
While hypothetical in nature, this sample portfolio is intended to be illustrative of the liquidity risk associated with any portfolio containing futures and long options where the funding of any variation on the futures position must be supported by available cash or buying power from the securities segment of the account and not unrealized option gains.