1 Abstract Officially margin requirements in bourses in Bangladesh were initiated on April 28, 1999, to limit the amount of credit available for the purpose of buying stocks. The goal of this assignment is to discuss in details about margin, margin trading, margin trading history in DSE and the trend of margin trading, to measure the impact of changing margin requirement on stock returns volatility in Dhaka Stock Exchange (DSE). The impact of margin requirement on stock price volatility has been also studied Using daily stock returns; we found mixed evidence that SECS margin requirements have significant impact on market volatility in DSE. We also included our study on a particular brokerage farm trading on margin.
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Abstract
Officially margin requirements in bourses in Bangladesh were initiated on April 28, 1999, to
limit the amount of credit available for the purpose of buying stocks. The goal of this assignment
is to discuss in details about margin, margin trading, margin trading history in DSE and the trend
of margin trading, to measure the impact of changing margin requirement on stock returns
volatility in Dhaka Stock Exchange (DSE). The impact of margin requirement on stock price
volatility has been also studied Using daily stock returns; we found mixed evidence that SECS
margin requirements have significant impact on market volatility in DSE. We also included our
study on a particular brokerage farm trading on margin.
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1.0 Introduction
Margin requirement can be defined as the amount that an investor must deposit in order to open
or maintain a position in stocks and derivatives. A margin loan is secured by the client’s
collateral which is a portfolio of securities and typically carries a margin rate (the interest
charged on the loan) that is favorable due to the presence of collateral. Moore (1966) and
Figlewski (1984) explain reasons for implementing margin requirement. The first rationale is to
ensure credit and resources are allocated to productive economic activities that are not including
speculation activities. The second is to check investors from taking awfully high leverages
which may eventually be detrimental to them. The third is to lessen the risk of price movements
which is driven by purchasing stock on credit. To meet these goals, however, it is assumed that
an investor will not seek ways to obtain credit to finance their stock purchases other than
borrowing through margin account. , there has been very little systemic study on the importance
of the stock market in the capital market. In case of Bangladesh, the stock market capital
represents perhaps less than one fourth of one percent of the nation’s physical capital. It should
have no significant effect the performance of the economy one way or another. The big problem
however is the potentially unsafe exposure of the financial sector to the volatile stock market.
There is practically no information on the extent of exposure to stock market risk.
However, after a massive nosedive such as the one that occurred recently in the Bangladeshi
stock market, there is renewed urgency to look at the margin requirement and other available
tools to calm down the highly volatile market and to assure the nervous investors. Considering
these facts this paper looks at the evidence from Bangladesh & by the results may give some we
can find some positive facts that will show us the necessity of margin requirements to stabilize
the market. However, there may be more potent tools to develop an investment climate with
greater stability and more diversified options for investment.
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1.1 Introduction of the report
Each professional degree needs practical knowledge of the respective field of discipline to be
fruitful. Our BBA program also is similar, relating to the exchange of theoretical knowledge into
the real life practical situation. The report entitled “Margin Trading in Dhaka Stock
Exchange”; A study on Margin trading & brokerage farm. The main purpose of the
preparation of the report understands the practical knowledge about Margin trading in DSE.
During the course, we were under the supervision and guidance of Jannatunnesa Mam, Senior
Lecturer, Dept. of Business Administration. East West University.
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1.2 Objectives of the report
Main Objective:
The main objective of this study is to prepare a paper on the specified topic implementing the
knowledge that has been gathered over the semester at the East West University-Bangladesh.
Specific Objective:
The Objectives of this report are:-
To give a clear idea about the Margin & Margin Trading
To give a clear idea about the Margin Trading in DSE
To analyze the relation between stock market volatility and requirement of Margin
To provide details about a brokerage farm trading on margin
To recommend some suggestions what we can actually give to that particular brokerage farm.
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1.3 Methodology
Project Design:
At first we got the report design and structure from our academic supervisor and moved for the
next steps.
Data Collection:
To prepare this report we had to collect data from both primary and secondary sources-
Primary Data:
Discussion with officials of DSE, LankaBangla Securities lmtd.
Discussion with employees and investors
Secondary Data:
Different Journals
Through web searching
1.4 Limitations
The Study was limited by a number of factors. Some Constraints are given below:
Limited Source of Data
Lack of Co-Operation from the official from confidential Point of view.
Shortage of information on margin in DSE
Time was also limited to prepare the report.
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About Margin
What is Margin?
"Margin" is borrowing money from broker to buy a stock and using own investment as collateral.
Investors generally use margin to increase their purchasing power so that they can own more
stock without fully paying for it.
What is Margin Trading?
To trade on margin, one needs a margin account. This is different from a regular cash account, in
which that person can trade using the money in the account. By law, the broker is required to
obtain his/her signature to open a margin account. The margin account may be part of that
person’s standard account opening agreement or may be a completely separate agreement. An
initial investment is required for a margin account which can vary in different brokerage houses.
This deposit is known as the minimum margin. Once the account is opened and operational,
investor can borrow up to 50% of the purchase price of a stock. This portion of the purchase
price that he/she deposit is known as the initial margin. It's essential to know that he/she doesn’t
have to margin all the way up to 50%. Can borrow less; say 10% or 25%. Be aware that some
brokerages require depositing more than 50% of the purchase price.
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How Margin Works
Hypothetically speaking if someone buys a stock for $50 and the price of the stock rises to $75. If he/she bought the stock in a cash account and paid for it in full, that person will earn a 50
percent return on his/her investment. But he/she bought the stock on margin – paying $25 in cash and borrowing $25 from his/her broker – would have earned a 100 percent return on the money invested. Of course, that person still owes the firm $25 plus interest.
The downside to using margin is that if the stock price decreases, substantial losses can mount quickly. For example, let's say the stock been bought for $50 falls to $25. If been fully paid for
the stock, it’ll 50 percent loss of money. But if been bought on margin, lose will be 100 percent, and still must have to come up with the interest owed on the loan.
In volatile markets, investors who put up an initial margin payment for a stock may, from time to
time, be required to provide additional cash if the price of the stock falls. Some investors have been shocked to find out that the brokerage firm has the right to sell their securities that were
bought on margin – without any notification and potentially at a substantial loss to the investor. If your broker sells your stock after the price has plummeted, then you've lost out on the chance to recoup your losses if the market bounces back.
Recognize the Risks
Margin accounts can be very risky and they are not suitable for everyone. Before opening a margin account, one should fully understand that:
He/she can lose more money than have invested;
May have to deposit additional cash or securities in account on short notice to cover market losses;
May be forced to sell some or all of securities when falling stock prices reduce the value of securities; and
Brokerage firm may sell some or all securities without consulting to pay off the loan it made.
One can protect by knowing how a margin account works and what happens if the price of the stock purchased on margin declines. Know that firm charges interest for borrowing money and
how that will affect the total return on investments. Be sure to ask broker whether it makes sense for to trade on margin in light of one’s financial resources, investment objectives, and tolerance for risk.
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Margin Rules:
Margin Rules, 1999 Dated the 28th April 1999
No. SEC/Section-5/98-542/141- In exercise of the powers conferred by Section 33 of the
Securities and Exchange Ordinance, 1969 (Ordinance No. XVII of 1969), the Securities and
Exchange Commission makes the following rules, namely:-
1.Short title. - These rules, may be called Margin Rules, 1999.
2.Definitions. - (1) In these rules, unless the context otherwise requires, -
a) "Average net capital" means the average of net capital of the three months preceding the
previous month.
b) "Exchange" means the recognized stock exchange.
c) "Member" means a member of the exchange who is registered as the stock-dealer/stockbroker
by the Securities and Exchange Commission under the Securities and Exchange Commission
(Stock-dealer, Stock-broker and Authorized Representative) Regulations, 1994.
(2) Words and expressions used herein and not defined, but defined in the Securities and
Exchange Ordinance, 1969 (XVII of 1969), the Securities and Exchange Commission Act, 1993
(XV of 1993), the Rules and Regulations made under the said Ordinance and Act, and the
Companies Act, 1994 (XVIII of 1994) shall have the same meanings respectively assigned to
them in the said Ordinance, Acts, Rules and Regulations.
3. Margin Account.
(1) A member may extend credit facilities to his approved client for securities transactions
subject to the margin account requirements of these rules.
(2) Margin account arrangements must be evidenced in the form of a written agreement
executed between the member and the client.
(3) A client who operates a margin account with a member shall authorize the member to
mortgage, pledge or hypothecate the client's securities or property for a sum not exceeding the
debit balance in the margin account and without obligation to retain in his possession or control
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securities of like character.
(4) The margin deposited by client with the member shall be in the form of cash, securities
issued by the Government or its agencies, marginable securities and such other instruments as
the Commission may from time to time prescribe. The initial margin must be deposited with the
member not later than seven days from the first date of securities transaction and shall be such
amount that would result in the equity being not less than 150% of the debit balance in the
margin account.
(5) Whenever the equity in a client's margin account falls below 150% of the debit balance,
the member shall request the client to provide additional margin to bring the equity to not less
than 150%. Such additional margin must be satisfied by deposit of cash or marginable securities
within three days from date of notice. The member shall not permit any new transactions in the
margin account unless the resulting equity in the account would be not less than 150% of the
debit balance.
(6) A member shall not permit the equity in a client's margin account to fall in any way
below 125% of the debit balance. Once the equity falls below this level, the member shall have
absolute discretion and without notice to the client to liquidate the margin account including the
marginable securities deposited to bring the equity to not less than 150% of the debit balance.
(7) The member shall cause daily review to be made of all margin accounts to ensure that
credit is not overextended beyond the approved facility and that the margin requirements
prescribed above are met at all times. For the purpose of computing margin requirements in a
margin account, the last traded price of the security on the preceding market day shall be used.
All transactions traded on the same day shall be combined on a transaction date basis and the
total cost of purchase or the net proceeds of sale including any commission charged and other
expenses shall be taken into account for computing margin requirements.
(8) The member shall require substantial additional margin as the exchange with the prior
approval of the Commission may from time to time prescribe in an account where the securities
carried are subject to unusually rapid or violent changes in value, or do not have an active
market or have been suspended from trading on the exchange for more than seven days or where
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the quantity carried is such that it cannot be liquidated promptly.
(9) A client may withdraw cash or securities from his account provided that the equity in his
account does not fall below 150% of the debit balance.
(10) The exchange shall have with the prior approval of the Commission the discretion to vary
the margin requirements stipulated in sub-rules (4), (5) and (6) above.
(11) All securities transactions in a margin account shall be on a ready basis. The margin
account shall not be used to subscribe for new issues of securities.
(12) For the purpose of these sub-rules:-
(a) "Debit balance" means the cash amount owed by a client in his margin account
before deducting cash deposited by him as margin;
(b) "Equity" means the sum of margin and current market value of securities bought
or carried in a client's margin account;
(c) "Margin" means the aggregate amount of cash and market value of securities
deposited by a client into his margin account, but shall not include securities which are bought
and carried in the margin account;
(d) "Marginable securities" means securities permitted by the exchange to be bought
and carried in margin accounts.
4. Discretionary Account.
(1) Discretionary account means an account in which the client gives a member discretion which
may be complete or within specific limits as to the purchase and sale of securities including
selection, timing and price to be paid or received.
(2) No member shall exercise any discretionary authority with respect to a discretionary account
unless:-
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(a) The client has given prior written authorization to the member to exercise discretion on
the account;
(b) The member has accepted the discretionary account. Acceptance of a discretionary
account must be evidenced by a document in writing which shall be available for examination
and signed on behalf of a member by authorized person of the member.
The authorization given to the member shall specify the investment objectives of the client with
respect to the particular discretionary account. Each authorization or acceptance may be
terminated by notice in writing by member or the client, as the case may be.
5. Exposure to a single client.
(1) No member shall permit deficit arising from transactions by a single client to exceed 25% of
its average net capital.
(2) In sub-rule (1) above, "deficit" means -
(a) The excess of amount owed by the single client in his cash account over the market value
of all his securities held by the member as collateral;
(b) The amount of margin deficiency in the single client's margin account as determined by
minimum margin requirement permitted under rule 3 (6); and
(c) The amount of unsecured interest charged on amounts owed by the single client.
6. Exposure to a single security.
(1) No member shall permit his exposure to a single
Security to exceed -
(a) 100% of his average net capital if the security is quoted on the exchange;
(b) 100% of his average net capital if the security is unquoted, but such security shall not
include the member's interest in subsidiary and associated companies and any company which
the exchange may approve from time to time.
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(2) In sub-rule (1) above, "exposure to a single security" means -
(a) The book value of the single security carried in the member's own account;
(b) the contract value of the single security underlying clients' cash accounts to the extent
that they have not been paid for; and
(c) The amount of credit extended to clients for the purchase of the single security on
margin.
7. Contravention. -
Contravention of any of the provisions of these rules shall be punishable under the provisions of
the Securities and Exchange Ordinance, 1969 (XVII of 1969), the Securities and Exchange
Commission Act, 1993 (XV of 1993), the Rules and Regulations made thereunder, and the bye-
laws of the stock exchange as well.
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Margin in Bangladesh:
Though in the U.S., and in many other countries, margin requirement is set by the Central Bank,
in Bangladesh, like India, Securities and Exchange Commission (SEC) decides the margin ratio.
In Bangladesh, two types of margin loan exist. One is for investors and another is for members
of the stock exchange.
Margin for investors:
Before April 28, 1999, in Bangladesh, members or brokers were not permitted to provide credit
facilities to their clients. However, unofficially or informally they did provide credit facilities to
their clients which were totally unauthorized. Both the Exchanges and Commission detected it
and observed that it was perturbing the market and also realized that it could lead the market into
more trouble provided that there were no guidelines or rules for margin loan facilities. But it
should be noted here that under SEC (Merchant Bank & Portfolio Managers) Ordinance, 1996,
some merchant banks, Investment Corporation of Bangladesh (ICB) operated some margin loan
activities. But there was no specific ratio for margin loan before October 24, 2007. On October
23, 2007, under a notification, SEC fixed the margin ratio at 1:1 basis for merchant banks and
portfolio managers.
Nonetheless, in exercise of the powers conferred by Section 33 of the Securities and Exchange
Ordinance, 1969 (Ordinance No. XVII of 1969), the Securities and Exchange Commission made
the Margin Rules, 1999 on April 28, 1999. Under these rules, a member can extend facilities to
the clients for the purpose of securities transactions subject to the margin account requirements
of these rules. Margin account must be evidenced in the form of a written agreement executed
between the member and the client.
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According to the Margin Rules, 1999, the margin deposited by client with the member is
required to be in the form of:
♦ Irrevocable and Without Resource to the Drawer Bank or Insurance Guarantee or Guarantee
issued by the non-banking financial institution (NBFI) registered with the Bangladesh Bank
provided such NBFI is lawfully authorized in this behalf;
♦ Government securities;
♦ Fixed Deposit Receipt issued by any scheduled bank;
♦ Sanchay Patra and Defense Saving Certificate issued by the Government of Bangladesh;
♦ Life Insurance Policy at surrender value;
♦ Demand Draft or Payment Order issued by any scheduled bank;
♦ Securities listed with the Exchange (valued at seventy percent of the lowest market price
prevailed in the Exchange in the previous week); and
♦ Cash.
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Date
Effective From Margin Requirement
10 January, 2011
11 January, 2011
33.33%
19 December, 2010
20 December, 2010
40.00%
December, 2010
Immediate Effect
50.00%
21 November, 2010
22 November, 2010
66.67%
8 July, 2010
11 July, 2010
50.00%
15 March, 2010
18 March, 2010
40.00%
3 February, 2010
7 February, 2010
50.00%
1 February, 2010
Immediate Effect
40.00%
3 February, 2008
10 February, 2008
50.00%
25 November, 2007
26 November, 2007
66.67%
19 November, 2007
20 November, 2007
100.00%
23 October, 2007
24 October, 2007
50.00%
18 April, 2005
19 April, 2005
33.33%
21 December, 2004
Immediate effect
100.00%
28 April, 1999
33.33%
Table 1 : His tor ical Margin requirement Changes in Bangladesh
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Member’s margin:
In exercise of the powers conferred by section 34(1) of the Securities and Exchange Ordinance,
1969 (Ordinance No. XVII of 1969), the Dhaka Stock Exchange Limited made the Dhaka Stock
Exchange (Member® Margin) Regulations, 2000, with the approval of the Securities and
Exchange Commission. According to these Regulations, 0MemberS margin0 means the margin
deposited by a member with the clearing house. Every member compulsorily deposited an
amount as security deposit with the Exchange prescribed by the Exchange. Every member shall,
in addition to the security deposit, deposit with the clearing house, free of interest, as member®
margin an amount at the rate specified in sub- regulation (3) on his additional trade exposure
within one hour of his exceeding the free limit failing which his trade shall remain suspended.
As per SEC directive (SCE/CMRRCD/2001-49/231 dated November 26, 2009), the free limit
shall be five taka crore only in respect of the stock exchange membersEl margin deposit with the
stock exchange on each trading day based on the total buy exposure, without linking to the
capital requirements. However, members are changed heavily for additional trade exposures.
However, this paper focuses only on the margin requirements for investors. MembersEl margin
is irrelevant to this study. Table one illustrates historical margin requirement changes in
Bangladesh. Currently, margin requirement is 33.33 percent.
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Margin Trading In DSE
Officially margin requirements in bourses in Bangladesh were initiated on April 28, 1999, to limit the amount of credit
available for the purpose of buying stocks. SEC introduced margin requirements in DSE as SEC’S margin
requirements have significant impact on market volatility in DSE.
Fig: List of Brokerage firms trade on Margin in DSE
SL. No Company Name Address
1 A B S Safdar & Co. Ltd. Room # 626 (5th floor), 9/E, Motijheel C/A, Dhaka-1000.